Traders experienced when the U.S. stock market turned on its head Wednesday, October 11. Shares sold short at one point on unfavorable stocks powered by record-breaking increases. Traders piled into above-spot shorts ahead of the trading session making a record number of those positions. This figure was nearly two times higher than what we experienced at the beginning of the Covid pandemic in early 2020. A combination of this accumulated short position, which Bank of America was the first to publicize, created the perfect storm for a volatile market reaction.
As the day progressed, long-only funds made substantial investments in technology stocks, particularly during the last three hours of trading. Bank of America and Oppenheimer noted an extraordinary development. These funds collectively purchased more of the big tech stocks than ever before, adding upward momentum to the still hot market.
Through it all, the S&P 500 index managed a stunning 9.5% gain for the period, the third-largest gain in that index’s history since World War II. This jump was primarily due to an artificial purchase pressure that pushed the index up. Fourth, the S&P 500 enjoyed a miraculous comeback. At the same time, a basket of the most shorted stocks jumped 12.5% on Wednesday, beating the broader index by more than 2,000 basis points.
Speculative short covering dynamics were a huge part of these moves. Jeff Kilburg, CEO and CIO of KKM Financial, explained the phenomenon:
“You can’t catch a move. When you see someone short covering, the exit doors become so small because of these crowded trades.”
That 91% of the money was one of the biggest stories going into Wednesday. Traders stacked the most short positions against the market that we’ve seen since the start of the pandemic. This important, if self-correcting, move showcases the market’s extreme volatility and uncertainty. One of the comments from Bank of America’s trading desk was the amount of short positioning suggested a setup for massive market movement.
In particular, Oppenheimer’s trading desk highlighted the challenges faced by those holding short positions:
“The pain on the short side is palpable; the whipsaw we have witnessed the past few weeks is extreme.”
Now analysts are abuzz over the largest single-day jump in stock prices. Bank of America’s Global Fixed Income trading desk admonishes that short covering is far from done and foresees further corrections coming.
This increase in stock prices tracked a historic drop in the level of stock futures’ open interest. On Monday, the Chicago Mercantile Exchange E-Mini S&P 500 futures hit an all-time high. No more did traders have to complete $2 million trades with the touch of a button. This drop served to exacerbate even more the swift changes already taking place in the market.
Market participants reacted with a healthy dose of optimism and skepticism to these multifaceted strides forward. While many rejoiced with the surprising gains, others were wary about the long-term reoccurrence of such rapid increases. That volatility and unpredictability has led many to question the health of the current market and what it indicates about long-term trends.
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