John Flood, a partner at Goldman Sachs Group, stated that the sharp reversal in US stocks on Thursday indicates that NVIDIA's (NVDA.US) blowout earnings failed to deliver the "all-clear" signal on risk that traders had hoped for, instead prompting them to seek shelter to prevent further losses.
The significant surge at the open of the US stock market quickly dissipated. The S&P 500 rose as much as 1.9% in the first hour, then turned downward, falling 1.1% by 1 p.m. — marking the largest intraday swing since the market turbulence in April — erasing over $2 trillion in market value from the day's high and closing below its 100-day moving average for the first time in months. The VIX volatility index jumped above 26.
Despite NVIDIA's stunning earnings performance, stocks fell sharply, leaving traders scrambling for explanations. Various theories abound, ranging from doubts about the Federal Reserve's ability to cut interest rates following mixed jobs reports, to concerns over excessive valuations and technical dynamics, factors that may have prompted fast-money funds to continue selling. "The market is bruised and battered right now," Flood wrote in a note to clients. "The market is hyper-focused on hedging crowded risks, and investors are in pure P&L protection mode."
Goldman's trading desk observed increased short positioning in macro products, including exchange-traded funds, custom basket products, and futures. The desk also noted poor market liquidity, with the depth of order books for S&P 500 quotes dropping below $5 million, compared to a one-year average of $11.5 million, a factor that may have amplified stock market volatility.
Flood pointed out that since 1957, including Thursday, there have been eight instances where the S&P 500 opened more than 1% higher but then reversed to close lower. Fortunately, the average performance following these events has been positive, with gains of at least 2.3% the next day and over the following week, and an average rise of 4.7% over the subsequent month. "These types of reversal events cause investors to reassess their risk exposures," Flood said.
