Hedge funds have been piling into bets against stocks this month, pushing one measure of their short exposure close to its highest level in five years. The selling comes as the AI trade takes a beating and technology-focused managers struggle through a painful October.

Goldman Sachs' prime-brokerage data put clients' short leverage in the 99th percentile of its five-year range. That measures how unusually high the exposure is compared with its own history. It does not mean funds have bet 99% of their money against the market.

Across global equities, short sales have outpaced new long purchases by roughly 5 to 1 this month, according to the bank's figures, described in an October 22 Bloomberg report. That ratio tracks recent trading activity, rather than the balance of everything those managers already own.

A rough month for the AI trade

The losses help explain the defensive turn. Global fundamental long/short funds were down 2.5% for October through Monday, October 19, leaving them with a 10.1% gain for the year. Technology, media and telecommunications funds were doing considerably worse, down 7.4% for the month at that snapshot.

Selling in global information technology shares during the two weeks through October 16 was the heaviest net selling in the desk's dataset in more than a decade.

Thursday brought another reminder of why managers have been nervous. The Nasdaq 100 finished October 22 at 28,958.69, down 2.90% from the previous session's close. The S&P 500 fell 1.21% to 7,663.43. Those are completed-session readings, with U.S. data showing technology shares taking the larger hit.

For a manager still holding technology stocks, adding shorts can help offset losses elsewhere in the portfolio. Other short positions may be outright wagers that a particular company or index will fall. The aggregate figures don't identify the purpose of every trade.

Funds are keeping a foot on both sides

There is another detail worth paying attention to: gross leverage has risen even as net leverage for fundamental long/short funds has dropped near a three-year low.

Gross exposure adds together a fund's long and short positions. Net exposure subtracts shorts from longs. A manager can therefore enlarge the overall portfolio while reducing how much it depends on stocks going up. Lower net exposure can coexist with a very busy, heavily invested fund.

The regional and sector details make that clearer. Europe was the only major market seeing small net purchases this month. Meanwhile, net exposure to the Magnificent Seven reached a record peak, even as managers sold the broader technology sector.

So the retreat has been selective. Funds have been willing to keep substantial exposure to the biggest technology names while becoming more defensive elsewhere.

The caution also predates this week's decline. In a public interview recorded October 7, Mark Wilson, the bank's head of European equities franchise sales and hedge fund coverage, described investors reassessing risk as rates rose:

So positioning has been really cut in response to rates and a bunch of other uncertainties that are out there.

Why crowded shorts can backfire

A short seller typically borrows shares and sells them, hoping to buy them back more cheaply. If the price rises instead, buying back the shares costs more. A manager facing those losses may close the trade, creating extra buying demand.

When enough funds do that together, their purchases can drive prices higher still. That's a short squeeze, and near-extreme short positioning raises the stakes if a rebound gets going.

There still needs to be a reason for sellers to retreat. Stronger earnings, more convincing returns on AI spending or relief on interest rates could change the calculation. Until then, a crowded trade can remain crowded. These figures describe how funds are positioned, not when their next round of buying will arrive.