Short positions hit record highs. Can the US stock bull market hold up?

TL;DR

• S3 data shows that short interest in US stocks has risen to record levels, and hedge funds are reducing positions in tech stocks.
• This is more likely a high-level hedge, not a reversal of the bull market. Earnings results will determine the direction of volatility.
• Related tickers: SPX, NDX, XLK, SMH, NVDA, Mag 7.

While the S&P 500 remains at elevated levels, short interest in US stocks and hedge fund reductions in tech holdings are both increasing, prompting the market to reassess the margin of safety for AI trades.

This set of signals makes investors nervous because it contradicts the main trend of the past two years. The AI narrative drove indices higher, yet institutions are buying more insurance on this trade. The issue isn't just whether US stocks have peaked; it's that with prices already pricing in a lot of optimism, bad news could be amplified.

Let's clarify the concepts first. Short interest ratio is the size of borrowed and sold shares relative to the total tradable shares. It can represent a direct bet on a decline, or it could simply be a hedge. Funds may still hold long positions but use short selling, options, or position reductions to lower drawdown risk.

Therefore, record short interest does not automatically mean institutions are completely bearish. A more accurate description is that while the US stock market is still trading on the long-term benefits of AI, institutions have begun to reprice short-term volatility.

Short Interest Can Rise Even as Indices Climb

Rising prices and increasing short interest may seem contradictory, but they often occur simultaneously. Especially when valuations are high, positions are crowded, and earnings season approaches, funds will keep their long positions while increasing protective hedges.

Citing data from S3 Partners, media reports indicate that short interest in S&P 500 components is about 3.79% of their free-float shares, the highest since S3 began tracking in 2010. For Russell 3000 components, this ratio is about 6.3%, also at a record high.

These figures shouldn't be simply added to other metrics. Different institutions have different scopes, and exchange disclosures often report total short shares rather than this specific ratio. New York Stock Exchange data from July shows that total short interest on NYSE Group had increased compared to the previous period as of June 30, 2026, only indicating that the size of short positions is growing.

Client reports from Goldman Sachs Prime Brokerage point in a similar direction. According to a Reuters report on July 6, US hedge funds net sold tech hardware and semiconductors for the fourth consecutive week, with the Information Technology sector also being the most net-sold US sector for the fourth straight week.

The key point here isn't an exact percentage, but that big players are reducing their net exposure to tech. The market hasn't staged a collective retreat; overall prices are still supported by retail buying, corporate buybacks, and trend-following capital. However, the protective cushion for the upside is getting thicker.

AI Trading Enters a Phase of Amplified Bad News

Institutions' concern isn't that AI has no value, but that current prices have already pre-traded a lot of future returns.

In recent years, the core explanation for the US stock market rally has been AI. Cloud providers and tech giants increased capital expenditure (capex), Nvidia and the semiconductor chain benefited from spillover orders, and the market believed these investments would eventually translate into revenue, profit margins, and productivity gains.

For investors, capex isn't just a story; it's an investment that needs to generate returns. If AI infrastructure investment continues to rise but terminal revenue, enterprise spending, and profit contributions don't accelerate in tandem, valuations will come under pressure first.

Semiconductors are most likely to become volatility amplifiers. They sit at the front end of the AI investment chain, reacting fastest to orders and expectations, and are most sensitive in terms of valuations. If earnings reports show slowing order growth, margin pressure, or concerns about customer concentration, the market tends to compress semiconductors first, which then spreads to the Nasdaq and S&P 500.

Geopolitical risk acts as an external catalyst. Geopolitical conflicts, energy prices, and supply chain uncertainties may not change the long-term demand for AI, but they will change the multiples the market is willing to pay for high-valuation assets. The biggest fear for a high market isn't one piece of bad news, but positions being too crowded when that bad news arrives.

This explains why the increase in short interest looks more like a rise in insurance premiums. Institutions may not necessarily believe the AI bubble will burst, but they are unwilling to leave themselves overly exposed ahead of earnings and external risks.

Morgan Stanley's Dual-Track Assessment

Morgan Stanley's recent strategic framework perfectly illustrates the core of this divergence. The index may still have upside potential in the medium term, but tech and semiconductors need to digest their gains in the short term.

On July 14, Morgan Stanley strategist Mike Wilson mentioned on the firm's official podcast that semiconductors could pull back, and there would be volatility and corrections before the next bull leg. On July 15, a Morgan Stanley Wealth Management article stated that its Global Investment Committee expects the S&P 500 could rise to 8000-8300 points over the next 12 months, while simultaneously recommending taking some profits in the semiconductor sector.

This isn't simply bullish or bearish; it's a common dual-track assessment in a high market. Long-term, if earnings continue to be revised up and AI investment generates real revenue, the index can move higher. Short-term, if valuation expansion runs ahead of earnings, a pullback can occur.

For investors, don't interpret positioning signals as one-way predictions. An increase in short positions could lead to a short squeeze after positive earnings reports, as short and hedge positions are forced to cover, actually pushing prices higher. Conversely, it can amplify declines when bad news hits.

What determines the direction isn't the amount of short interest, but whether, when the catalyst arrives, the market finds its previous valuation assumptions were too conservative or too optimistic.

Earnings Will Determine if Shorts are Fuel or Friction

The upcoming earnings reports from tech giants and semiconductor companies will serve as a stress test for the AI trade. The market needs to see more than just a statement of "strong demand"; it needs cloud revenue, AI orders, gross margins, and returns on capex to align.

If earnings show accelerating cloud revenue, strong AI orders, and stable gross margins, short positions could turn into fuel for the upside. Short sellers or hedgers would need to cover, and momentum buyers would reconfirm the AI trend.

If earnings only prove that capex continues to expand but fail to show that returns are materializing simultaneously, the market will reassess the premium paid for future growth. In that case, short positions wouldn't be the cause of the decline, but they would act as a volatility amplifier.

The more reasonable conclusion now isn't that the bull market is over or that shorts will definitely be squeezed. The US stock market is entering a more demanding phase. The AI narrative is still valid, but valuations require earnings to deliver. Semiconductors remain the core theme, and they are also the first to bear the brunt of risk repricing.