Hedge Funds Have A New Favorite Stock. Should You Follow Their Lead?

Hedge Funds Have A New Favorite Stock. Should You Follow Their Lead?
Carl Hazeley

over 2 years ago3 mins

    • Facebook’s a hedge-fund favorite right now: 27% of funds own the stock, and it’s a top 10 holding for 57% of them.
    • Facebook’s benefited from the pandemic-fueled growth of online advertising this year, but there are regulatory and ad tracking risks too.
    • You might want to buy in, since hedge funds’ top stocks historically outperform. Or you might want to be a contrarian and short the stock.
  • Facebook’s a hedge-fund favorite right now: 27% of funds own the stock, and it’s a top 10 holding for 57% of them.
  • Facebook’s benefited from the pandemic-fueled growth of online advertising this year, but there are regulatory and ad tracking risks too.
  • You might want to buy in, since hedge funds’ top stocks historically outperform. Or you might want to be a contrarian and short the stock.

Mentioned in story

Fresh data has shown that hedge funds’ new favorite stock is – drumroll please – our old friend Facebook: 27% of them own shares in the social media giant, and 57% have it as a top ten holding. And as luck would have it, there’s a play if you agree, and a play if you don’t

👍 Why should you buy Facebook?

1️⃣ The swing away from growth stocks and towards value and cyclical stocks that began late last year has started to reverse. That’s benefited growth stocks like Facebook, which is up 27% in the last three months versus the S&P 500’s 10%. Even the value sector of the moment – energy – is only up 6%.

Facebook (orange) vs. S&P 500 Index (blue) vs. US Energy Index (purple) – last 3 months performance
Facebook (orange) vs. S&P 500 Index (blue) vs. US Energy Index (purple) – last 3 months performance

2️⃣ The pandemic’s pushed even more shopping online, meaning advertisers’ dollars are in close pursuit. The online advertising market’s expected to grow 20% this year as a result – and as one of the world’s biggest ad platforms, Facebook should benefit. Indeed, analysts are predicting its revenue will grow 35% this year – almost double the market. And it’s true that Facebook’s key figures still look strong: the company’s growing its number of users and its revenue per user, which should give investors confidence in future earnings growth.

Facebook’s consistently grown its active users…
Facebook’s consistently grown its active users…
… All while growing its revenue per user
… All while growing its revenue per user

👎 Why shouldn’t you buy Facebook?

1️⃣ Front and center is regulation: the overarching risk is that Big Tech will be forced to split up, which would require Facebook to spin off WhatsApp and Instagram into separate companies. But if that is going to happen, it’s a long way off. In the much nearer term, investors are still having to reckon with the company’s first antitrust case in Europe, and will be hoping it doesn’t lead to big fines or a wave of similar cases elsewhere.

2️⃣ Apple’s recent mobile software update has made ad targeting – Facebook’s bread and butter – much more difficult. That means advertisers are likely getting less bang for their buck, and may spend fewer of those bucks with Facebook overall. In fact, one estimate says it could cost the company about 7% of its second-quarter revenue – and more in quarters to come.

💰 What’s the opportunity here?

Over the last 18 years, the stocks that have seen the biggest increase in hedge fund ownership have usually gone on to outperform their sector peers in the next few quarters.

Hedge funds' favorites performance

It stands to reason, then, that Facebook’s rise to the top of several hedge fund lists suggests it’ll outperform in the future – potentially making it a worthwhile buy right now.

If, however, you reckon the near-term risks outweigh the potential rewards, now’s the perfect time to consider a “contrarian” strategy. That’s one that posits stocks are most likely to fall when everyone else is wildly optimistic – and most likely to rebound when pessimism’s at its peak.

So you could read hedge funds’ overwhelming pro-Facebook consensus as a contrarian signal to bet against a rise in the company’s shares. There are a couple of ways to do that: by selling your Facebook shares if you own any, or by “shorting” the shares if you don’t.

Be warned, though: shorting stocks usually requires leverage, which can magnify your gains and losses. Plus, when you’re shorting stocks, your potential losses are limitless. So if Facebook’s shares go up and up, you’ll go deeper and deeper into the red.

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Disclaimer: These articles are provided for information purposes only. Occasionally, an opinion about whether to buy or sell a specific investment may be provided. The content is not intended to be a personal recommendation to buy or sell any financial instrument or product, or to adopt any investment strategy as it is not provided based on an assessment of your investing knowledge and experience, your financial situation or your investment objectives. The value of your investments, and the income derived from them, may go down as well as up. You may not get back all the money that you invest. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment advisor.

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