Hedge Funds Are Still Betting Big on the Market, Even if They Are Less Bullish Than Before, Morgan Says

Hedge funds continue to maintain significant positions in the market, but their optimism appears to be fading, according to a recent analysis from J.P. Morgan.

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The report indicates that while gross leverage among hedge funds is at record levels, net leverage has declined. This suggests that while hedge funds remain active in the market, they are becoming more cautious. Gross leverage reflects the total value of a fund’s positions relative to its capital, while net leverage accounts for both long and short positions, providing a clearer picture of overall market exposure.

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The findings suggest that hedge funds are still confident in their ability to find profitable opportunities despite ongoing market volatility and uncertainty surrounding the Trump administration’s policies. However, their reduced net exposure indicates a more defensive approach.

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“Hedge funds are lowering their net exposure while maintaining high gross leverage, reflecting a defensive yet active stance,” said Bruno Schneller, managing partner at Erlen Capital Management, a Swiss-based asset manager. He added that the shift toward defensive sectors and hedging strategies reflects rising concerns about market stability, although there is no sign of widespread panic—at least for now.

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This cautious approach comes as stock market futures indicate a weak opening on Wall Street. Although the S&P 500 rose on Wednesday, the index remains down 5% from its mid-February peak, highlighting the market's recent struggles.

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J.P. Morgan analysts, led by John Schlegel, who heads the bank’s positioning intelligence team, observed that hedge fund activity was concentrated in specific sectors. Hedge funds increased their holdings in communication services and healthcare, two areas often viewed as defensive in uncertain economic conditions. Meanwhile, they reduced their exposure to industrial stocks, which are typically more sensitive to economic cycles.

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Interestingly, non-hedge-fund flows revealed a different pattern. Retail investors—who invest directly in individual stocks and exchange-traded funds (ETFs)—have reduced their buying activity. At the same time, commodity-trading advisers (CTAs) increased their exposure to markets in China and Europe while cutting back on U.S. positions. This shift suggests a divergence in strategy between professional hedge funds and other types of investors.

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J.P. Morgan’s analysis also highlighted that overall market positioning is currently about 1.5 standard deviations below its 12-month average. Historically, when positioning falls to this level, it tends to be a bullish signal for stocks over the following five to sixty days. This implies that despite the cautious stance of hedge funds, there may be a short-term buying opportunity if historical patterns hold.

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The elevated gross leverage indicates that hedge funds are still actively seeking returns but are doing so with increased caution. By maintaining high leverage while lowering net exposure, hedge funds can take advantage of specific market opportunities while limiting their overall risk. This strategy reflects a broader effort to navigate the unpredictable environment created by shifting U.S. trade policies and economic uncertainty.

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Schneller explained that this defensive positioning does not mean hedge funds expect an imminent market collapse. Rather, they are preparing for continued volatility and potential downside risks while remaining flexible enough to capitalize on emerging opportunities.

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The sectors attracting hedge fund interest—communication services and healthcare—are typically viewed as more resilient during economic uncertainty. Communication services, which include major tech and media companies, benefit from stable consumer demand and ongoing digital transformation. Healthcare, on the other hand, is considered a defensive sector because people continue to require medical care regardless of broader economic conditions.

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In contrast, industrial stocks—which hedge funds are selling—are more vulnerable to economic slowdowns. These companies rely heavily on global trade and manufacturing activity, making them more susceptible to the effects of tariffs and other trade-related disruptions.

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The divergence between hedge fund activity and other investor flows is also noteworthy. While hedge funds are focusing on defensive U.S. sectors, CTAs are increasing their exposure to international markets, particularly in China and Europe. This suggests that some investors view overseas markets as offering better growth potential or safer havens compared to the U.S.

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Despite the recent market turmoil, J.P. Morgan’s historical analysis suggests that the current positioning could signal a near-term rebound. When investor exposure reaches 1.5 standard deviations below its average, stocks have generally performed well over the next several weeks. This pattern offers a glimmer of hope for investors looking for signs of stabilization.

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Overall, hedge funds appear to be adopting a cautious but proactive approach. They are maintaining high levels of activity while reducing their overall exposure to limit risk. This strategy reflects a growing awareness of market fragility without signaling an immediate expectation of a major downturn.

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As market participants continue to adjust to the uncertain policy environment, the coming weeks may reveal whether this defensive stance is justified—or if the historical tendency for rebounds at current positioning levels will hold true once again.

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