US stocks still have room for "deleveraging," JPMorgan: It will take three months to recover to pre-April levels
- Core Viewpoint: A JPMorgan report indicates that the deleveraging process among US investors, which began in June, is ongoing. Leveraged ETFs, options, and margin accounts all have room for further deleveraging, which is expected to suppress US stocks for several months. However, the medium-to-long-term supply and demand structure for stocks remains a positive support.
- Key Elements:
- Leveraged ETFs: Choppy markets erode their size, acting as a built-in "self-correcting" mechanism. Since their peak, the total size of all leveraged ETFs has shrunk by 13%. It is estimated that about three more months of choppy trading are needed to return to pre-April levels.
- Options Market: The retail bullish call option buying volume indicator hit a peak of approximately 14 million contracts on June 5, matching historical highs. After the indicator peaks, tech stocks typically undergo several months of adjustment, with the trough corresponding to the indicator falling to between 2 million and 4 million contracts.
- Margin Accounts: Current leverage levels are at historically extreme highs, comparable to peaks seen in late 2021 and mid-2018. Although they have slightly declined recently, significant deleveraging is still required to avoid constituting a major headwind.
- Hedge Funds: Long/short equity hedge funds may have reduced their semiconductor exposure in July, with both their correlation to semiconductor stocks and leverage levels showing a downward trend.
- H2 Supply and Demand: Retail capital inflow is the biggest support, estimated at over $1 trillion for the full year, with approximately $482 billion in the second half. The combined estimated net demand for the second half is about $197 billion, providing long-term support.
Original Author: Long Yue
Original Source: Wall Street News
The shadow of US stock market deleveraging has not yet dissipated.
According to information from Zhui Feng Trading Desk, JPMorgan's Global Market Strategy team pointed out in its latest report released on July 15 that the investor deleveraging process initiated by the US in June is still ongoing. There is further room for deleveraging in three areas: leveraged stock ETFs, the options market, and margin accounts, which will continue to suppress stock market performance in the coming months.
They estimate that it will take about three months of sideways market action for the ratio of leveraged stock ETF size to underlying market capitalization to return to pre-April levels.
Leveraged ETFs: Self-Correction Mechanism Activated, But the Road is Long
The problem with leveraged stock ETFs is essentially a mathematical trap.
The bank explained the logic: Suppose an underlying index falls 10% one day and rebounds 11.1% the next day to return to its original level. A 3x leveraged ETF would lose 30% on the first day and gain 33.3% on the second, resulting in a net loss of 7%. In other words, sideways market action itself erodes the size of leveraged ETFs. This is a built-in "self-correction" mechanism.
Data confirms this. Analyst data shows that since the peak, the size of the leveraged memory chip stock ETF has shrunk by 34%, and the size of all leveraged stock ETFs has shrunk by 13%.
But the problem is that the decline in the ratio relative to the market capitalization of the underlying stocks is much smaller.
JPMorgan analysts pointed out that the ratio of the size of the leveraged memory chip stock ETF to its underlying market capitalization is three times the average for all stock ETFs. This explains why the volatility of memory chip stocks is significantly higher than the broader market. More concerning is that even for the overall leveraged stock index ETF, its ratio is at a high historical level, indicating this is not just an issue for individual sectors, but a systemic risk for the entire market.
The analysts concluded: "It will take about three more months of range-bound trading for the ratio of leveraged stock ETF size to underlying market cap to return to pre-April levels."
Furthermore, new capital continues to flow into leveraged ETFs in July, further extending the time needed for deleveraging.
Options and Margin Accounts: Two 'Minefields' for Retail Investors
In the options market, the retail bullish call buying indicator tracked by JPMorgan analysts (based on OCC data, counting customers holding fewer than 10 contracts) peaked at nearly 14 million contracts on June 5, matching historical highs seen in October 2025 and November 2021.
Historical patterns show that after this indicator peaks, tech stocks typically undergo several months of adjustment, with the bottom often corresponding to a low of 2 million to 4 million contracts for this indicator. Although the indicator has clearly fallen from its peak, analysts believe that if it ultimately falls to a 'capitulation' level of 2 million to 4 million contracts, tech stocks will still face sustained pressure.
The situation is more severe for margin accounts. Using the NYSE Net Debit Balance as a proxy indicator for US retail investor leverage, the data shows current levels are at extreme historical highs, comparable to peaks in late 2021 and mid-2018 – and after those two peaks, the stock market experienced several months of adjustment.
Analysts note that margin accounts have shown some signs of recent decline, but "significant deleveraging is still needed to stop posing a significant headwind to the stock market."
In contrast, leverage from risk parity funds has largely returned to normal and is no longer a major source of market resistance.
Hedge Funds: Semiconductor Exposure May Have Quietly Shrunk
At the hedge fund level, the bank's data reveals an interesting shift.
In June, despite declines in the S&P 500 and Nasdaq, Equity Long/Short (L/S) funds and Technology, Media, and Telecom (TMT) sector hedge funds recorded positive returns of 1.2% and 3.7%, respectively. Analysts believe this is closely related to the strong performance of the semiconductor sector – the SMH semiconductor ETF rose 9.5% in June, while US hyperscale cloud computing stocks fell 14.5% over the same period.
However, signals changed in July. The correlation between daily reported equity L/S funds and semiconductor stocks has dropped significantly. The analysts' high-frequency leverage proxy indicator also shows a decline in leverage levels in July – after this indicator rose to its highest level since 2017 in June.
Based on this, JPMorgan concludes that equity long/short hedge funds may have reduced their semiconductor exposure in July.
Supply and Demand in H2: Retail Investor Funds are the Biggest Support
Deleveraging is a short-term headwind, but the bank's analysts also point out that from a longer-term perspective, the stock supply and demand structure remains positive and will provide support once the deleveraging pressure subsides.
Analysts summarized the fund flow forecasts for various investor types:
Demand Side:
- Retail Investors: The biggest source of support. Inflows year-to-date have reached approximately $550 billion, potentially exceeding $1 trillion for the full year. An inflow of about $482 billion is expected in the second half.
- Sovereign Wealth Funds/Central Banks: Expected to contribute approximately $110 billion in stock demand annually, with about half occurring in the second half.
- Equity Long/Short Hedge Funds (AUM ~$1.4 trillion): Net purchased about $20 billion year-to-date, but analysts expect little room for further accumulation in the second half.
- CTA Trend-Following Funds: The momentum signal z-score is around 1.0, and net buying in the second half is expected to be near zero.
Pressure Side:
- Pension Funds and Insurance Companies: Structurally reducing equity exposure. Expected net sales of about $470 billion for the full year of 2026, with approximately $235 billion in the second half.
- Balanced Mutual Funds: Have net sold approximately $210 billion in stocks year-to-date, concentrated mainly in June.
Overall, analysts project total net stock demand of approximately $475 billion for the full year 2026, and net supply of about $200 billion (including three major AI-related IPOs), resulting in net demand of about $275 billion, with approximately $197 billion in the second half.
The analysts specifically noted that this positive supply-demand balance does not contradict the deleveraging pressure – "the deleveraging process may dominate the market in the coming months, causing significant price volatility, while the stock supply-demand balance acts more like a background, long-term force that will provide support once deleveraging subsides."
