Chris Rokos is the founder of London-based hedge fund Rokos Capital Management. His firm generally flies under the radar in the global hedge fund industry despite managing over $192 billion in assets for clients and a personal net worth of $2.3 billion.
The billionaire founded the hedge fund in 2015 after a falling out with his partner, Alan Howard, who co-founded Brevan Howard in 2002.
Although Rokos’ hedge fund manages close to $200 billion in assets, its Q3 2024 13F holdings report is just $6.16 billion. However, that doesn’t mean there aren’t any investment ideas in the hedge fund’s latest report.
As of Sept. 30, 2024, Rokos Capital Management invested its billions under management in 92 stocks. It tends to take a macro approach to investing, betting on everything from stocks to currencies to interest rates and commodities.
It made 120 moves in the third quarter, including 23 new purchases, adding to 14 existing positions, selling out of 58 stocks, and reducing its holdings in 16 stocks. Of these moves, a macro play on small-cap stocks stands out.
Here’s why.
Key Points About This Article:
- Billionaire Chris Rokos’ hedge fund continues to make big bets on small-cap stocks.
- Rokos Capital Management used call options to add 1.25 million shares of the iShares Russell 2000 ETF (NYSEARCA:IWM | IWM Price Prediction) in Q3 2024.
- While somewhat bearish, the hedge fund’s overall position in IWM appears to have become more optimistic heading into 2025.
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The Move to Small Caps
As I said in the introduction, the hedge fund added to 14 existing positions.
One of those was the iShares Russell 2000 ETF (NYSEARCA:IWM), which tracks the performance of the Russell 2000 Index. This index comprises 2,000 of the smallest companies by market cap on U.S. stock exchanges.
Before explaining why Rokos increased its position in IWM, I’ll review the details of the addition itself.
First, the hedge fund added the equivalent of 1.25 million shares of IWM, a 38.32% addition to its holdings. I say equivalent because it used call options to add to its position rather than buying shares outright. It’s a leverage thing.
The addition brought the total number of IWM shares to 4.51 million. They’re worth $1.03 billion at current share prices, making the calls the second-largest position, behind only IWM put options, which are equivalent to 5.0 million shares. Together, they account for slightly over 34% of the hedge fund’s $6.16 billion in assets.
Rokos has a slightly bearish view of U.S. small-cap stocks, given the 488,000 difference between puts and calls.
However, Rokos’s increase in the call position by 38% while keeping its put position the same indicates that it became more enthusiastic about small-cap stocks heading into the year’s final quarter.
We won’t know how enthusiastic (or not) the hedge fund is until it reports its Q4 2024 13F in mid-February.
Why IWM and Small Caps?
The first answer would be that the upside appears to be greater than large caps, which have run far in the nearly five-year bull run from the March 2020 correction.
Since the bottom at the beginning of COVID-19, IWM is up 125%, while the iShares Core S&P 500 ETF (NYSEARCA:IVV) has gained 164% over the same period. Over the past year, IVV’s gained nearly 26%, over 700 basis points greater than IWM. Reversion to the mean is bound to happen at some point. Why not 2025?
Secondly, small-cap stocks tend to benefit from lower interest rates.
“When market expectations for the course of the Fed’s policy rate turn more dovish, small caps tend to outperform,” stated BNP Paribas Asset Management’s outlook for small-cap stocks in 2025.
“This phenomenon is likely a function of the cost of debt falling for small-cap companies which typically have a higher proportion of variable rate debt than larger-cap companies.”
Lastly, lower rates should translate into increased M&A (mergers & acquisitions) in 2025, which, in turn, should generate higher earnings, leading to higher small-cap share prices.
The fly in the ointment is what happens with the Trump tariffs and how it affects U.S. consumers. Smaller companies tend to generate more of their business in the U.S. Should inflation kick back in in a material way, smaller companies will suffer most from lower consumer spending.
Ultimately, IWM is an excellent way to bet on the bottom two-thirds of U.S. companies without spending significant research resources on stock selection.
Rokos’s purchase of 1.25 million additional shares through call options in the third quarter adds intrigue. In the second quarter, the hedge fund sold all its 1.55 million shares in IWM, reducing its position.
At the end of Q1 2024, those IWM shares were the hedge fund’s fifth-largest position. The fund first bought shares of IWM in Q3 2023. According to WhaleWisdom.com, the average share price paid was $180.51.
It’s made money on its small caps bet over the past six quarters. I doubt it will exit until sometime later in 2025, if at all.
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