UBS Warns of 11% S&P 500 Drop as Short Squeeze Rally Peaks

UBS has issued a warning that the current short squeeze rally in U.S. stocks has reached its peak and investors should consider selling their positions. The bank's proprietary indicators show that while the market appears strong on the surface, the actual risk appetite has been declining.

According to the latest report, despite a recent sharp short squeeze rebound, the bank's proprietary "4M intraday recovery score," which measures autonomous risk appetite, has been declining and turned neutral as of June 18. Historical data analysis indicates that under similar short squeeze conditions and risk appetite backgrounds, the S&P 500 index has averaged an 11% decline over three months, while the Nasdaq index has averaged a 13% decline.

The market is also facing multiple pressures from the capital side, including imminent pension rebalancing sales and a sharp decline in corporate buybacks. UBS advises investors to consider reducing their holdings and exiting the market.

Historical data reveals the pattern after a short squeeze rebound. The bank's key indicator of investor autonomous risk appetite, the "4M intraday recovery score," issued a brief bullish false signal on April 11 and has since been declining, turning neutral (below 15%) on June 1 and further dropping to 9% on June 19. According to UBS statistics, out of the four instances of short squeeze rebounds exceeding 30% since 2022, three occurred when the "4M intraday recovery score" was also below 25%, leading to subsequent market corrections. In these three cases, the short squeeze index averaged a 29% decline, the S&P 500 index averaged an 11% decline, and the Nasdaq QQQ averaged a 13% decline over three months.

Multiple capital flows are turning bearish. UBS's monitoring of retail investor funds shows that out of the past five trading days, four days saw net selling. Similarly, foreign investors' funds flowing through U.S.-listed ETFs also showed net selling on four out of five days.

Institutional selling pressure is imminent. UBS expects that the end-of-quarter rebalancing of pension and target-date funds will trigger global stock sell-offs totaling 560 billion, with 310 billion targeting international stocks and 250 billion targeting U.S. stocks. Corporate stock buybacks, a key support, are also expected to significantly weaken. UBS forecasts that corporate buybacks will drop to 300 billion next week and further decline to 150-200 billion per week by early August, as companies enter a buyback blackout period.

UBS particularly warns of the heightened risk for large-cap tech stocks. The report notes that the current short position ratio of Nasdaq-100 index constituents is at a one-year low, the QQQ put/call ratio is at a five-year low, and the volatility risk exposure is also at a five-year low.

Based on the above analysis, the report concludes: "This is a dangerous configuration, especially given the over-extended short squeeze and the lack of hedging in large-cap tech stocks. From a capital flow perspective, aside from selling pressure from geopolitical news, retail investors, foreign investors, and pension funds are expected to sell, and there is a lack of support from corporate buybacks." Therefore, UBS recommends that investors adopt a defensive strategy.