Hedge funds bet on fall in S&P 500

Date: Wednesday, July 11, 2007
Author: Alexis Xydias, Globe and Mail

LONDON -- Hedge funds are short-selling Standard & Poor's 500 index futures by the most in three years, a Merrill Lynch & Co. analyst says, and she recommends investors buy the securities before the funds have to settle their obligations.

"Large speculators" had the biggest short-interest position on the contracts in the week through July 3 since mid-2004, Mary Ann Bartels, Merrill's chief market analyst, wrote in a report to clients yesterday.

The bets, which speculate that the index is going to fall, require about $45-billion (U.S.) to buy back the securities for reimbursement, she estimated.

Short positions have reached "crowded levels" and "we view this as a contrary indicator and readings continue to be bullish for stocks," Ms. Bartels wrote in a weekly note on hedge fund activity. "Short levels provide a floor on price."

Merrill, the world's biggest brokerage, used data provided by the Commodity Futures Trading Commission's weekly Commitments of Traders report.

In a short sale, investors borrow securities to sell on the expectation they will be able to buy them back at a lower price.

The amount of short-interest positions on the New York Stock Exchange climbed last month to 3.3 per cent of total outstanding shares, the highest since the exchange starting providing the data in 1995.

Each share that is borrowed creates a repurchase obligation that may lift prices, a process that is known as "short covering."

Ms. Bartels' team, based in New York, tracks hedge funds' investments in index futures for the S&P 500, the Nasdaq 100 and the Russell 2000 indexes to produce so-called technical and quantitative analysis.

Ms. Bartels and Shan Hasnat, the other analyst who wrote the report, weren't immediately available to comment.

Short positions on the Russell 2000 index, a benchmark for smaller-capitalization stocks in the United States, fell in the week to their lowest level since at least 2002, the Merrill Lynch & Co. report indicated.

The S&P 500 has almost doubled since October, 2002, when it was at its lowest level in 5½ years.