Hedge funds are struggling due to Facebook's plunge, bets against stocks, Goldman says

  • Goldman Sachs says hedge funds are significantly underperforming the stock market this year.
  • The firm said the average stock hedge fund is down 1 percent this year through Aug. 17 versus the S&P 500's 8 percent gain.
  • Facebook's fall after its earnings report and hedge funds' short-selling bets are hurting returns, according to Goldman.
Mark Zuckerberg, chief executive officer and founder of Facebook Inc. attends the Viva Tech start-up and technology gathering at Parc des Expositions Porte de Versailles on May 24, 2018 in Paris, France. 
Christophe Morin/IP3 | Getty Images News | Getty Images
Mark Zuckerberg, chief executive officer and founder of Facebook Inc. attends the Viva Tech start-up and technology gathering at Parc des Expositions Porte de Versailles on May 24, 2018 in Paris, France. 

The so-called "smart money" hedge funds are dramatically underperforming this year.

Goldman Sachs explained the weakness is the result of big positions in Facebook shares and disastrous bets against stocks.

The firm said the average stock hedge fund is down 1 percent this year through Aug. 17 versus the S&P 500's 8 percent gain.

"Volatility among the most popular stocks and low net leverage in a rising market have weighed on recent hedge fund returns," strategist Ben Snider said in Goldman's quarterly "Hedge Fund Trend Monitor" report Monday. "Nearly 100 hedge funds owned Facebook as a top 10 portfolio position at the start of 3Q … weighing on fund returns as the stock tumbled in July."

Facebook shares plunged 19 percent on July 26, a day after the internet giant warned about slower sales growth for the third and fourth quarters and a reduced forecast for long-term profit margins.

For hedge funds that held Facebook shares, the average position size was 4 percent of their portfolios as of the end of the second quarter.

"Before its disappointing earnings results, 230 hedge funds (28%) in our sample owned FB, making it the most popular position," Snider said.

Facebook shares are down 11.2 percent so far in the third quarter through Monday versus the S&P 500's 5.1 percent gain in the same time period.

Hedge funds have also been hit by the strong gains in stocks that made up some of the most concentrated short positions.

Short-selling is a trading strategy that involves selling borrowed shares with a view that the stock will drop in value and the shares can be bought back later and returned for a profit. But trading went in the wrong direction for these bets.

Goldman Sachs said a basket of 50 stocks in the Russell 3000 with market caps more than $1 billion and the highest outstanding short interest rose 21 percent year to date, or nearly triple the S&P 500's return.