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When hedge funds race for the door, don't get left holding the bag.
This is the advice from Jefferies' equity strategist Steven DeSanctis, who warned investors of the darling stocks the most active funds own. As those high-turnover hedge funds trade and replace holdings most often, their top-owned stocks will most likely get dumped once sentiment turns. It's important to recognize those crowded trades and get out before they unwind, he said.
The bank reviewed the quarterly 13-F regulatory filings from the top 100 hedge funds and found the top and bottom 25 funds by turnover, namely how frequently the managers buy and sell stocks. Then Jefferies located the most-owned stocks by those high-turnover hedge funds.
"In times of stress, investors need to focus on who owns what stocks, which funds are more likely to 'blow out' a name and impact performance," DeSanctis said in a note to clients on Thursday.
The so-called tech giant FANG stocks dominated the top holdings of high-turnover funds. Software company Red Hat as well as Boeing, Honeywell, Visa, Adobe and Bank of America also made the list. The hedge fund industry overall loaded up on tech stocks at their fourth-quarter bottom, just in time to cash in on the double-digit rebound.
"The thought here is that when the market gets rocky, who is likely to purge names and who would likely add to positions. Knowing this may help investors decide whether to buy or sell a stock; also just to understand who owns names that you hold is becoming increasingly important," DeSanctis said.
To add to the danger, if the stocks that high-turnover funds own also lack liquidity, they could "get hammered" when the market turns choppy. Jefferies said these stocks include Tribune Media, Dollar Tree, T-Mobile and L3 Technology.
Jefferies also recognized the top holdings of low-turnover funds, which are the ones that don't buy and sell frequently. The names include biotech company Seattle Genetics, Procter & Gamble and Microsoft. These stocks are supposed to be less vulnerable to massive selling from hedge funds that hold stocks for a longer period.