Panic buying! "Momentum trading" sweeps the US market, "historic extremes" draw market attention
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The momentum trading fever in the US stock market continues to rise. Amid multiple positive factors, the buying frenzy has spread to various assets such as junk bonds and cryptocurrencies, prompting warnings from Wall Street.
On Friday, the S&P 500 Index hit a record high, the Philadelphia Semiconductor Index surged 11% over five trading days, and US stocks have risen for six consecutive weeks.
This week, signs of easing in Iran's situation, stronger-than-expected US employment data, and another significant surge in AI chips, together pushed the already overheated momentum trading to new heights. The momentum index fluctuated considerably this week, but ultimately closed higher.
Although about 85% of S&P 500 constituents beat earnings expectations this season, providing fundamental support for chasing gains, some investors note that this trade is fragile in the short term and rotation risks are accumulating.
Barclays strategists warn that momentum trading has reached extreme levels historically indicative of sell-offs; Goldman Sachs' trading desk also pointed out this week that high-momentum stock valuations are clearly overextended, and position sizes are at recent highs.
Momentum Trading Spreads Across All Assets, AI Chips Lead the Rally
The logic of momentum trading is simple and direct: buy the hottest gainers, sell the weakest performers.
This strategy was applicable to almost all asset classes this week. Junk bonds, cryptocurrencies, and semiconductor stocks were all swept into the same "risk appetite" playbook.
The chip sector was especially outstanding, with AMD's weekly Relative Strength Index (RSI) approaching historic overbought levels.
Software stocks also rebounded for the fourth consecutive week, with weekly gains exceeding 5%. Earlier this year, the sector saw sharp declines.
Options data show that as US stocks repeatedly hit new highs, traders are pouring into call options with near-record enthusiasm. The volume of call options traded in single-stock options is at its highest relative to puts in about four years.
The Barclays "stock party" index shows that bullish sentiment among retail investors remains high, with the one-month moving average at about 14.3%, nearly three standard deviations above the long-term average.
WallstreetCN mentioned that this frenzy reminds analysts of "late-cycle over-optimism." Greg Boutle, Head of US Equity and Derivatives Strategy at BNP Paribas, said the current environment "is starting to feel a bit like the late 1990s."
Mechanical Buying, Questionable Rally Quality
The internal market structure reveals another side of this rally.
According to Bloomberg's analysis, this rebound has a distinctly mechanical character: at the onset of the Iran-Israel conflict, institutional holdings were generally low. As stock prices rose and volatility dropped, forced buying created a positive feedback loop—higher prices, lower volatility, stronger demand for call options, repeating cyclically.
However, market breadth continues to deteriorate. The rally increasingly relies on large-cap tech, semiconductor, and AI-related stocks, while contributions from other constituents are shrinking.
The value factor shifted to declines after a strong first quarter. The low-volatility factor has declined for six straight months. The quality factor (favoring profitable, low-leverage companies) is also under pressure, with its 60-day correlation to momentum near its lowest in a year.
This is typical of risk-appetite rotation—defensive factors retreat as speculative factors soar.
Chip stock valuations, measured by P/E ratio (24.4 times forward earnings), remain below the 2024 peak of 30.4 times. But in terms of price-to-sales ratio, they are at a historic high.
Barclays and Goldman Issue Dual Warnings: Extreme Valuations and Holdings
Despite the strong rally, institutional warning signals are intensifying.
Alexander Altmann, Barclays Global Equity Tactical Strategy Chief, noted in this week's report that investors are piling into winning stocks.
This phenomenon has historically preceded momentum factor crashes, as seen during the 2008 global financial crisis and the period after the COVID-19 vaccine emerged in 2020.
He warns that this round of momentum rally has reached extreme levels historically indicative of a correction.
Goldman's proprietary data also show that high-momentum stock valuations are stretched, and institutional holdings are at recent highs.
Michael Romano, UBS Securities Head of Hedge Fund Equity Derivatives Sales, noted that AI winner stocks have risen over 50% from their March lows. "The momentum factor feels very fragile in the short term," he said, adding:
Consider hedging AI winner positions by holding short-term downside protection.
Thursday's market provided a brief preview: News of renewed US-Iran tensions briefly hammered leading AI stocks, and the momentum index had its worst performance in three months. But losses quickly recovered by Friday.
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