Goldman Sachs: July unwound crowded trades; the US equity bull market remains intact but has become more challenging

Article author: Pan Lingfei

Source: Wall Street News

July’s US stock market resembled a position-level unwinding rather than an index-level crash. The S&P 500 held its ground this week, with a total July volatility range of just 3.5% and sitting less than 2% below its recent high. More counterintuitively, the equal-weighted S&P, low-volatility S&P, and AI-excluded S&P 500 all hit record highs this week.

Tony Pasquariello, head of Goldman Sachs’ hedge fund business, wrote in his latest market commentary: 'After high-velocity trades experienced a truly parabolic surge, a sledgehammer has smashed through consensus positions over the past month; I’m inclined to believe this frenzy has cooled off.' The key point isn’t that risk has vanished, but that the most crowded, easiest-to-leverage, and most reflexively chased trades have been forcibly deflated.

Surface calm coexists with underlying turbulence. The S&P 500 saw daily volatility of less than 1% this week, yet Goldman Sachs’ flagship momentum basket swung nearly 10% on average per day. On June 22, Goldman’s TMT momentum basket was up 145% year-to-date, then suffered its worst drawdown on record, followed by a single-day rebound of 17%. Asian fundamental long/short funds posted record performance in the first half of the year, only to experience their steepest monthly drawdown in a decade, while South Korea’s KOSPI surged 18% overnight.

This framework ultimately leads to an uncomfortable conclusion:The U.S. equity outlook remains generally favorable, but risk-reward is no longer cheap, and global equities offer less upside elasticity than before. The bull market hasn’t been ruled out, but we’re no longer in a 'buy and hold' phase.

The biggest pitfall in July is focusing solely on the S&P 500.

The index isn’t flashing panic signals. The S&P 500 is less than 2% from its peak, with a trading range of just 3.5% in July—appearing to be merely normal volatility. But beneath the surface, active managers have already lived through a different market: hot momentum plays, AI-related stocks, Korean equities, and Asian long/short strategies have all been hit by deleveraging.

The issue isn’t how much the market drops on any given day, but that the previously most profitable trades have suddenly lost liquidity. Those positioned in the S&P 500 itself see stability; those betting on high-momentum tech stocks see near-uncontrollable volatility.

This is where the critical divergence in July lies:At the index level, the waters are calm—but at the positioning level, a batch of boats have already capsized.

Several data points show that this round of deleveraging has gone beyond ordinary portfolio rebalancing.

Global tech exposure has seen its largest sell-off in over five years. The assets under management of Korean equity leveraged ETFs peaked at USD 53 billion in June and have now dropped to USD 15 billion. Goldman Sachs’ prime brokerage reported the sharpest reduction in total client exposure since the end of 2022.

More granular positioning changes point in the same direction: fundamental long/short clients’ leveraged exposure to momentum factors has fallen to the 28th percentile of its range over the past year. Crowded trades have shifted from 'everyone on board' to a significant portion of participants having already exited—or even been forced out.

This doesn’t mean painful trades won’t return. It just means that, compared to early July, the market’s impulse to chase rallies has clearly diminished, while cash levels and discipline have noticeably increased.

In the latter half of July, the AI trade faced not just simple profit-taking but a more fundamental question: can hyperscale cloud providers generate sufficiently clear and sustainable returns from their massive AI capital expenditures?

Skepticism around this question intensified last week. This week’s answers were mixed but better than the most pessimistic scenarios.

Meta did not demonstrate that significant AI returns are already materializing; Microsoft provided clearer signals that capital spending is translating into revenue and AI products—and at scale; Amazon subsequently delivered accelerating AWS growth and expanding cloud margins. Credit spreads on hyperscale cloud providers’ bonds narrowed in tandem.

This shift matters. If the AI trade boils down to 'massive spending, distant returns,' valuations will come under pressure. But if some companies can demonstrate that spending is beginning to translate into revenue, the market won’t treat the entire AI chain with a one-size-fits-all approach.

However, divergence has already emerged. The phase where simply attaching an AI label could boost valuations is—at least after this round of market cleansing—no longer that easy.

Equity traders haven’t gotten much relief after the FOMC meeting. Volatility in the long end of the U.S. Treasury curve briefly spilled over into the stock market.

More troubling is the shift in communication style. Markets have grown accustomed to high transparency, but now appear to be entering a more restrained phase with fewer explicit signals. Traders must infer policy direction from fewer clues, which in itself creates friction.

What truly matters is the policy direction—not every single word choice. But for equities, changes in long-end rates cannot be ignored, especially for long-duration stocks. AI, tech, and growth stocks are more sensitive to distant discount rates; if global bond markets continue pressuring the long end, a 'stable base' doesn’t mean comfort on a day-to-day basis.

From a broader perspective, U.S. equities haven’t lost their underlying support. The economy is performing well, earnings growth is strong, and capital flows are poised to turn more positive, with nearly $1 trillion in AI-related capital expenditures still circulating through the system.

This explains why the S&P 500 has held up despite intense deleveraging underneath. The index isn’t without risk—but it simultaneously benefits from enough supporting factors to provide a floor.

But this isn’t a signal for aggressive bullishness either. The U.S. equity outlook remains favorable, with risk-reward sitting in the mid-range, and global equities offering less upside elasticity than in the previous phase.

More volatility lies ahead in the near term. Summer liquidity conditions are unfavorable for risk transfer, and any position that is crowded, illiquid, or structurally complex will see amplified volatility. At the portfolio level, it’s better to enhance liquidity and reduce complexity rather than chase the steepest trades.

The Nasdaq 100 Index is currently down 8% from its June peak but remains up 12% year-to-date. Over the past nine months, it has declined in six of them, yet it is still up 9% on a point-to-point basis. Its price-to-earnings ratio has retreated to the lower end of its range over the past few years.

These figures clearly illustrate the market’s condition: the trend remains intact, but the journey is grueling.

In trading, the destination and the path are not the same thing. The Nasdaq’s primary bull market remains alive, but if the future continues in the rhythm of 'rally for a stretch, then sharply liquidate positions, followed by recovery,' making money will be harder than simply being right on direction.July already delivered one warning: the market does not reward overcrowding, nor does it forgive leverage.

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