(Bloomberg) -- The stock-market surge unleashed by Donald Trump’s presidential victory is triggering buy signals for rules-based investment funds, adding fuel to the rally.
In the run-up to Tuesday’s election, Wall Street had been positioning for the risk of a rocky spell after the vote.
Instead, Trump’s clear win drove the VIX Index, a measure of volatility known as the “fear gauge,” to its second biggest one-day drop since 2021 as the S&P 500 Index jumped 2.5%. The moves forced systematically inclined funds to rebalance by plowing into stocks, creating a technically driven feedback loop that’s adding to the other forces behind the advance.
“The year-end rally starts today and may be higher than investors were expecting,” Scott Rubner, a tactical specialist at Goldman Sachs Group Inc., wrote in a note to clients Wednesday. Behind it, he cited “unwinds of election hedges, re-levering, Buybacks, FOMO, Vanna,” a type of buying tied to the periodic expiration of option contracts.
Volatility-controlled funds are expected to buy $50 billion of US shares in the next month and a total of $110 billion through January, according to an analysis by Nomura Securities International. The Japanese bank is also predicting a significant shift into global equities by so-called risk-parity funds. Rubner also sees the potential for high levels of buying from those two types of investment vehicles.
Typically driven by volatility signals rather than fundamentals forces, the managed-risk funds are acutely sensitive to changes in the severity of daily price swings. They tend to curb their risk exposure when turbulence breaks out, then do the opposite when the volatility subsides.
The jump Wednesday is marking such a shift, allowing funds to add back risk after reducing equity exposure when Wall Street was bracing for a potentially prolonged period of volatility if the election’s outcome remained in doubt.
Other technical factors were also supportive. Funds that use derivatives to offer juiced-up returns on specific companies or indexes were also expected to generate about $15 billion of buying near the close Wednesday, Morgan Stanley’s Christopher Metli wrote in a note to clients on Wednesday. The flows are most likely to boost tech stocks, particularly semiconductor companies, due to the number of funds that focus on them.
Moreover, to balance out their option books, Wall Street dealers will likely buy $5 billion of equities Wednesday, according to Metli.
“Investors were hedged heading into the election,” said Chris Murphy, co-head of derivatives strategy at Susquehanna International Group. “Those hedges will either fade away or be sold to close.”
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