This is my regularly scheduled post that reminds people of what I am now calling the “ESG Effect”. Energy & other ESG-negative stocks sell off at the end of the quarter & reliably rebound afterward.
What is ESG? ESG is where stocks are scored for “ESG” (Environmental, Social & Governmental) pop social sentiment. Some people/companies refer to this as “social sentiment” scoring. At any rate, what it means is that stocks deemed as socially undesirable are essentially “cancelled”. ESG activists, for example, will target energy stocks and create negative publicity, boycotts and stage stockholder activism events around funds, well known investors & institutional investors that disclose holdings in the cancelled stocks. This has given rise to what has become a pattern of ESG dumping at the end of the quarter, where funds & investors that report holdings to the SEC (which then get disclosed to the public) will dump the stocks that they've been making money in by the end of the quarter and then, if the market for them still looks good, buy them back after the start of the next quarter. So dumping ESG-negative stocks has become a new variety of what has beeen referred to as “end of quarter window dressing”, where fund managers sell losers & buy popular winners to prettify their portfolios before having to disclose their holdings.
This pattern of energy stocks & options dumping has been particularly amplified by options trading, where options increase the volatility in oil prices & stocks around the end of the quarter in order to game an extra level of profits and also enable traders to buy back in at depressed prices.
I'm not predicting that this cycle will hold true at the end of Q4 2022/beginning of Q1 2023, because a lot of professional investors & funds got onto the energy stocks train in Q4 2022, and more people were willing to declare that they are holding energy stocks, so the end of quarter window dressing ESG selloff in energy may not be the low-hanging fruit that it was in Q1-Q3 2022. In fact, with more funds willing to declare holdings in energy stocks, I'm considering that there will be any bounce at all in energy at the start of Q1. But it hasn't failed me so far and so, to hedge my uncertainty, I've only bought the energy companies & ETFs that I feel are good long term holds.
Finally, it's worthwhile noting that there may be other socially/politically unpopular investments that will see a bounce after we clear the end-of-quarter reporting period for Q4 2022. For example, Chinese stocks.
Ultimately, these patterns suggest only short term trades, so, as always, if you want to increase the value and likelihood of success for a cyclical trade, it's best to have a short list of good quality investments in ESG-negative sectors, i.e. stocks that you wouldn't mind holding anyways, so that if you do trade this pattern, you're also buying solid investments.
Leave a Reply