Goldman says hedge funds suffered worst underperformance vs S&P 500 in July in more than 20 years of data

Goldman Sachs reports hedge funds saw their worst 1-month underperformance vs. the S&P 500 in 20+ years in July as AI momentum unwound, alongside one of the sharpest de-grossing episodes of the past decade. Funds trimmed long exposure across AI stocks, including many semiconductors and most mega-caps, with hedge fund crowding and leverage easing from Q2 highs though still above longer-term averages. Despite the volatility, US equity long/short hedge funds are up 10% through mid-August.

Analysis

This is primarily a positioning event, not a fundamentals event: when the most crowded AI longs are being cut, price action can decouple from earnings for weeks even if the underlying capex cycle is intact. Near term, that favors under-owned factors — equal-weight indexes, defensives, financials, and some industrials — while the highest-beta AI beneficiaries (semis, hyperscaler-adjacent suppliers, and the mega-cap platforms) can keep underperforming on multiple compression alone.

The second-order effect is that de-grossing can become self-reinforcing if realized volatility stays elevated. That matters most for names with heavy hedge-fund ownership and high options participation, because forced selling and dealer hedging can amplify intraday moves in SMH/SOXX, QQQ, and the largest AI software/platform winners even without a negative earnings revision. GS itself is more a liquidity/flow beneficiary than a pure directional long: higher turnover and hedging activity should support trading revenue, but sustained risk reduction eventually lowers prime balances and financing revenue.

The key risk is that this is only a tactical unwind inside a still-constructive AI capital-spending cycle. If hyperscaler capex guides remain firm over the next 1-3 months, the market may rotate within AI rather than abandon it, with the strongest balance sheets regaining leadership. The thesis is falsified if semis stop making lower highs on weak breadth, or if September/October earnings raise AI demand estimates enough to pull leverage back into the trade.

Key Decisions for Investors

• Short SMH or SOXX versus long XLU/XLP for the next 4-8 weeks: best expression of crowded AI de-risking with lower fundamental beta elsewhere; cover if SMH reclaims its prior 20-day relative-strength trend.
• Pair long XLF / short QQQ into month-end: if de-grossing continues, the index-level multiple compression should pressure QQQ more than financials; watch for a reversal if rates fall sharply or mega-cap earnings accelerate.
• Buy short-dated puts on the most crowded AI mega-caps or a defined-risk QQQ put spread into the next macro data/earnings window: attractive if realized vol remains elevated, but size for a quick reversal if flows stabilize.
• Small tactical long GS versus XLF basket on a 1-2 month horizon: higher trading and derivatives activity should help transaction revenue during de-grossing, though this is a flow trade, not a structural thesis.
• Set an alert on SMH relative to QQQ and on hyperscaler capex commentary next earnings season: if semis lead on a bad tape or capex guidance stays firm, cover shorts and rotate back into AI beta.