Daily Brief For April 19, 2023

Stocks down. Bonds and volatility up. Buy the dip?


Big news includes Netflix Inc (NASDAQ: NFLX) beating earnings estimates but having a weaker-than-expected forecast, Tesla Inc (NASDAQ: TSLA) cutting prices the sixth time this year, Meta Platforms Inc (NASDAQ: META) and Walt Disney Co (NYSE: DIS) commencing layoffs, and mortgage rates edging higher to ~6.4%.

US Mortgage Rate Climbs by Most in Two Months | Increase in 30-year fixed rate ended string of five weekly declines
Graphic: Retrieved from Bloomberg. “US mortgage rates increased last week by the most in two months to 6.43%, denting already sluggish demand.”

Equity markets are down, and equity implied volatility (IVOL) measures, including the Cboe Volatility Index or VIX, are climbing. Notwithstanding, the trend lower in IVOL is intact, and that’s good for traders biased short volatility.

Graphic: Retrieved from Bloomberg via Danny Kirsch of Piper Sandler Companies (NYSE: PIPR). Call option volatility for the $4,150.00 strike. May monthly expiration.

“With all the focus [on S&P 500 (INDEX: SPX)] 0 DTE lately, I look at how expensive these have been since 2022,” IPS Strategic Capital’s Pat Hennessy says, referencing a backtest he conducted selling a 1 DTE straddle and holding till maturity.

“Performance since the November CPI has been stellar, with a 63% win rate and an average gain of $20.00.”

Graphic: Retrieved from IPS Strategic Capital’s Pat Hennessy.

Volatility trader Darrin John agrees, noting volatility remains expensive, a detriment to those who may be biased long volatility.

“The VRP is so wide across all of the tenors I track,” John elaborates. “It’s going to be hard for gamma buyers to cover daily theta bills.”

Clouds are appearing on the horizon, however, and the trend higher (lower) in stocks (volatility) may not last. Bloomberg forecasts the largest fall in SPX earnings since the start of 2020. Notwithstanding, strength can continue for longer …

Graphic: Retrieved from Citigroup Inc Research (NYSE: C) via @tr8derz. “YTD rally stems from $1tn in CB liquidity. High-frequency indicators suggest this is already stalling, and coming weeks seem increasingly likely to bring a sharp reversal. Higher TGA and RRP, ECB QT and reduced China easing could easily see a net drain of some $6-800bn.”

… even with the SPX breadth reading poor. The SPX has rallied with multiples rising; strength came with positive earnings surprises, bond demand, and other things.

Graphic: Retrieved from Morgan Stanley (NYSE: MS) via Bloomberg.

Hence, at the risk of sounding like a broken record, the low-cost call structures we’ve talked about in the past remain attractive.

If markets move higher, you can monetize and roll profits into put spreads (i.e., buy put and sell another at a lower strike). This may work well if JPMorgan Chase & Co’s (NYSE: JPM) call that “even a mild recession would warrant retesting the previous lows” is realized.

Such structures work well as “a big pop in the market can result in a decent drop in the VIX…and vice versa, a market sell-off will result in a greater increase in the VIX now than it did in 2022,” says Alpha Exchange.

Alternatively, lean neutral and buy into cash or bonds yielding 4-5%. Some long box spreads yield 5.4% as of yesterday’s close.

In other news, Physik Invest’s first in-depth note is nearing completion and will be available for public viewing in short order. Take care and watch your risk!


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