Hedge Funds Are Selling Xylem Inc (XYL)

At the end of February we announced the arrival of the first US recession since 2009 and we predicted that the market will decline by at least 20% in (see why hell is coming). We reversed our stance on March 25th after seeing unprecedented fiscal and monetary stimulus unleashed by the Fed and the Congress. This is the perfect market for stock pickers, now that the stocks are fully valued again. In these volatile markets we scrutinize hedge fund filings to get a reading on which direction each stock might be going. In this article, we will take a closer look at hedge fund sentiment towards Xylem Inc (NYSE:XYL) at the end of the second quarter and determine whether the smart money was really smart about this stock.

Xylem Inc (NYSE:XYL) shareholders have witnessed a decrease in hedge fund sentiment of late. Xylem Inc (NYSE:XYL) was in 22 hedge funds’ portfolios at the end of June. The all time high for this statistics is 28. There were 27 hedge funds in our database with XYL holdings at the end of March. Our calculations also showed that XYL isn’t among the 30 most popular stocks among hedge funds (click for Q2 rankings and see the video for a quick look at the top 5 stocks).

Video: Watch our video about the top 5 most popular hedge fund stocks.

Hedge funds’ reputation as shrewd investors has been tarnished in the last decade as their hedged returns couldn’t keep up with the unhedged returns of the market indices. Our research has shown that hedge funds’ small-cap stock picks managed to beat the market by double digits annually between 1999 and 2016, but the margin of outperformance has been declining in recent years. Nevertheless, we were still able to identify in advance a select group of hedge fund holdings that outperformed the S&P 500 ETFs by 58 percentage points since March 2017 (see the details here). We were also able to identify in advance a select group of hedge fund holdings that underperformed the market by 10 percentage points annually between 2006 and 2017. Interestingly the margin of underperformance of these stocks has been increasing in recent years. Investors who are long the market and short these stocks would have returned more than 27% annually between 2015 and 2017. We have been tracking and sharing the list of these stocks since February 2017 in our quarterly newsletter.

Joel Greenblatt of Gotham Asset Management

At Insider Monkey we scour multiple sources to uncover the next great investment idea. For example, Federal Reserve has been creating trillions of dollars electronically to keep the interest rates near zero. We believe this will lead to inflation and boost precious metals prices. So, we are checking out this lithium company which could also benefit from the electric car adoption. We go through lists like the 10 most profitable companies in the world to pick the best large-cap stocks to buy. Even though we recommend positions in only a tiny fraction of the companies we analyze, we check out as many stocks as we can. We read hedge fund investor letters and listen to stock pitches at hedge fund conferences. You can subscribe to our free daily newsletter on our website to get excerpts of these letters in your inbox. Keeping this in mind let’s take a gander at the fresh hedge fund action encompassing Xylem Inc (NYSE:XYL).

How have hedgies been trading Xylem Inc (NYSE:XYL)?

At the end of the second quarter, a total of 22 of the hedge funds tracked by Insider Monkey held long positions in this stock, a change of -19% from one quarter earlier. By comparison, 19 hedge funds held shares or bullish call options in XYL a year ago. So, let’s find out which hedge funds were among the top holders of the stock and which hedge funds were making big moves.

Among these funds, Impax Asset Management held the most valuable stake in Xylem Inc (NYSE:XYL), which was worth $356 million at the end of the third quarter. On the second spot was GAMCO Investors which amassed $66.5 million worth of shares. Millennium Management, Arrowstreet Capital, and Citadel Investment Group were also very fond of the stock, becoming one of the largest hedge fund holders of the company. In terms of the portfolio weights assigned to each position Impax Asset Management allocated the biggest weight to Xylem Inc (NYSE:XYL), around 3.65% of its 13F portfolio. GAMCO Investors is also relatively very bullish on the stock, earmarking 0.76 percent of its 13F equity portfolio to XYL.

Due to the fact that Xylem Inc (NYSE:XYL) has witnessed declining sentiment from the aggregate hedge fund industry, logic holds that there is a sect of hedge funds that slashed their full holdings heading into Q3. It’s worth mentioning that Joel Greenblatt’s Gotham Asset Management dropped the largest stake of all the hedgies followed by Insider Monkey, comprising about $3.8 million in stock, and Javier Velazquez’s Albar Capital was right behind this move, as the fund sold off about $3 million worth. These bearish behaviors are interesting, as total hedge fund interest fell by 5 funds heading into Q3.

Let’s now take a look at hedge fund activity in other stocks similar to Xylem Inc (NYSE:XYL). We will take a look at NortonLifeLock Inc. (NASDAQ:NLOK), Arch Capital Group Ltd. (NASDAQ:ACGL), PagSeguro Digital Ltd. (NYSE:PAGS), Expedia Group Inc (NASDAQ:EXPE), Brown & Brown, Inc. (NYSE:BRO), Open Text Corporation (NASDAQ:OTEX), and Ceridian HCM Holding Inc. (NYSE:CDAY). This group of stocks’ market valuations match XYL’s market valuation.

View table here if you experience formatting issues.

As you can see these stocks had an average of 33.3 hedge funds with bullish positions and the average amount invested in these stocks was $1375 million. That figure was $505 million in XYL’s case. Expedia Group Inc (NASDAQ:EXPE) is the most popular stock in this table. On the other hand Open Text Corporation (NASDAQ:OTEX) is the least popular one with only 18 bullish hedge fund positions. Xylem Inc (NYSE:XYL) is not the least popular stock in this group but hedge fund interest is still below average. Our overall hedge fund sentiment score for XYL is 28.2. Stocks with higher number of hedge fund positions relative to other stocks as well as relative to their historical range receive a higher sentiment score. Our calculations showed that top 10 most popular stocks among hedge funds returned 41.4% in 2019 and outperformed the S&P 500 ETF (SPY) by 10.1 percentage points. These stocks gained 24.8% in 2020 through the end of September and still beat the market by 19.3 percentage points. A small number of hedge funds were also right about betting on XYL as the stock returned 29.9% in the third quarter and outperformed the market by an even larger margin.

Disclosure: None. This article was originally published at Insider Monkey.