Hedge Funds’ Trades Are Working Again After Worst Day in History

It won’t make the retail crowd any happier. But everything that had been making life miserable for institutional investors this week is reversing itself on Thursday.

Bearish wagers beloved by hedge funds notched gains. Wall Street’s most-hated stocks plunged at last. The usual suspects from Amazon.com Inc. to Microsoft Corp. powered large-caps higher.

With GameStop Corp. falling as much as 68%, the most-shorted shares lost 9% in its sharpest drop since March, paring gains this month to 39%, a Goldman Sachs Group Inc. basket shows. Meanwhile, an exchange-traded fund tracking hedge funds’ favorite names (GVIP) jumped 4%.

The S&P 500 Index rose 1.8%, headed for the biggest gain since early November.

Thursday’s reversal still looks minor relative to this week’s seismic moves spurred by day traders besieging the popular positions of the smart money. But the shift in trading fortune may signal a peak in deleveraging pressures on the institutional crowd.

Retail brokerages including Robinhood Markets and Interactive Brokers curbed trading in several WallStreetBets favorites, including GameStop and AMC Entertainment Holdings Inc.

“Those worries in relation to hedge funds have faded,” wrote David Madden, an analyst at CMC Markets, in a note. Restrictions on trading apps have “helped bring down the fear factor as the battle won’t be as intense now,” he added.

Burned by short sales gone awry, hedge funds took money out of the market on Wednesday at the fastest pace since Goldman’s prime brokerage began tracking the data in 2008. Hurt on both the long and short side of the book, these money managers suffered a negative alpha, or below-market return, of 3.1%, according to the bank’s data. That’s the worst on record.

To James Pillow, manager director at Moors & Cabot Inc., institutional investors as a group probably used the recent retreat to add stocks again, since many were still conservatively positioned.

“There are no signs of positioning exuberance, therefore, any pullbacks should prove to be good long-term buying opportunities,” he said.

Underscoring the market’s tentative return to form, a quantitative strategy that buys the past year’s winning stocks known as momentum jumped on Thursday after a slump in recent sessions, a Dow Jones market-neutral index shows.

The improving outlook for Corporate America also firmed up risk appetite Thursday. Weekly jobless claims were better than expected. U.S. economic expansion was not too far off estimates. Mastercard Inc. and Comcast Corp. delivered earnings surprises.