The Big Wall Street Comeback is Ending a Slew of Bear Market Bets

In the depths of April’s market turmoil, the strategy seemed clear: brace your portfolio for disaster, pile into defensive assets, and wait for calmer waters. But just four weeks into Wall Street’s stunning rebound, some of those hasty decisions are beginning to look regrettable.

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Investors who rushed to short the U.S. dollar, bet against equities, or wager on rising volatility are now facing the sting of backfiring trades. What’s behind the sudden reversal? A mix of President Donald Trump’s softer tone on tariffs, a string of encouraging economic reports, and a resulting surge in market optimism.

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While it’s possible these defensive moves could ultimately prove wise if trade tensions flare up again, for now they serve as a cautionary tale about the dangers of reacting too quickly during periods of extreme market swings.

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“There was a whole class of investors who began preparing for a recession and probably became too defensive with their holdings,” said Steve Chiavarone, senior portfolio manager and head of multi-asset at Federated Hermes. “We stuck to the mantra of ‘don’t overreact, don’t get emotional.’”

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The pain of these missteps is showing up across a range of asset classes. Despite widespread bearish bets, the dollar has inched higher over the past three weeks, defying expectations after short positions hit a seven-month peak.

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The S&P 500, meanwhile, has surged in 11 of the past 14 trading sessions, wiping out its tariff-driven losses and surprising investors who had dumped U.S. stocks at record levels.

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Junk bonds have also bounced back, with the iShares iBoxx $ High Yield Corporate Bond ETF jumping nearly 4% in the past month — a sharp contrast to the earlier wave of pessimism about risky credit. The Cboe Volatility Index, or VIX, has declined each week since early April, frustrating investors who had stubbornly maintained long volatility positions after they reached a six-year high in March.

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Even Treasuries have taken a hit, as long-dated bond ETFs posted their first consecutive weekly losses this year, forcing bond traders to temper their expectations for Federal Reserve rate cuts.

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In a matter of weeks, anxiety has given way to relief, thanks to Trump’s retreat from his most aggressive trade threats. Combined with solid economic data — including strong job numbers and subdued inflation — as well as Fed Chair Jerome Powell’s assurances about the economy’s underlying health, the stage was set for recession-focused trades to unwind.

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There’s a chance that April’s extreme positioning intensified the recent market moves. For example, Deutsche Bank data shows that stock exposure among investors dropped to near its lowest point since 2020 last month. As the S&P 500 began to rebound, those underweight positions forced investors to scramble to keep up, adding fuel to the rally.

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Currently, institutional investors are taking a neutral stance on major currencies and U.S. stocks, according to State Street Global Markets data. Marija Veitmane, senior multi-asset strategist at State Street, sees the lingering defensiveness among investors as potentially positive for risky assets. “A combination of position adjustment and weak expectations makes me slightly optimistic about the outlook for stocks,” she said.

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Yet, as has been true since Trump’s election, making sense of the market’s future in the face of his unpredictable trade maneuvers is extremely difficult. Investors began the year bullish on the president’s market-friendly policies, like tax cuts, anticipating a new era of U.S. economic strength — only to watch the so-called “Trump trade” morph into a “sell America” stance.

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Whether investors should chase the current rally or take shelter will largely hinge on what comes next in the trade negotiations, with key U.S.-China talks set to begin this weekend. According to Ilan Benhamou of JPMorgan Chase’s equity derivatives team, the most likely outcome is that both sides agree to keep talking, a scenario that could push the S&P 500 down by around 1.5%.

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If, however, tariffs are paused or significantly reduced to less than 50% — a scenario Benhamou assigns a 15% probability — the index could rise by about 3%. So far, multiple rounds of retaliation have elevated U.S. tariffs on Chinese imports to 145%, while China has imposed a 125% duty on American goods.

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For Priya Misra, a portfolio manager at JP Morgan Asset Management, patience is key, as trade deals take time to play out. Even tariff rates lower than Trump’s original proposals could dampen consumer and corporate spending. “Uncertainty and tariffs are both taxes on the economy,” Misra explained. “Once we see this reflected in the economic data, risk assets will face a reality check and struggle.”

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Despite the recent rebound, signs of investor caution remain. Selling of U.S. stocks continues, with roughly $24.8 billion withdrawn from American equity funds over the past four weeks — the highest level in two years, according to Bank of America and EPFR Global data. In the currency markets, speculators have also been building record-long positions in the Japanese yen, a traditional safe-haven asset.

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“These trades are crowded now,” said Charlie McElligott, managing director of cross-asset strategy at Nomura Securities International. “What we’ve seen over the past three weeks is that we’ve walked back from the worst-case scenario,” he added. “What’s playing out now is much less bad than what we had feared.”

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