Last week, we discussed the recent response to the bank issues cutting risks for the S&P 500 (INDEX: SPX). Volatility and correlations fell as time passed, and this helped contain the market. Though last week’s options expiration (OpEx) may free markets up, we maintain that the SPX may stay contained longer before it weakens.
Graphic: Retrieved from SqueezeMetrics. “Monthly OpEx just shaved off nearly $300mm per point in SPX dealer gamma exposure. That means index liquidity has lost quite a bit of depth going into next week.”
Catalysts for weakness include falling earnings growth and a debt-ceiling crisis that’s driven T-bill yields lower from surging demand; a failure by Congress to raise the limit on how much the government can borrow may disrupt funding markets, WSJ reports.
Let’s limit our expectations and focus on low- or zero-cost call structures (e.g., bull call ratio) monetized to finance longer-dated put structures (e.g., bear put vertical) while allocating a chunk of our portfolio to near-risk-free yield-harvesting structures (e.g., box spread), mainly if you are a portfolio margin trader.
As I explained to a subscriber over the weekend, for boxes, the greatest possible loss across a range of prices is negligible. Hence, buying power is unaffected in trading a box. Consequently, using portfolio margin and trading boxes, you have more buying power to allocate to other trades that are margin (and not debit) intensive, such as synthetic long stock (i.e., purchase ATM call and sell ATM put). Using options, among other derivatives, enables us to stack returns on each other.
Here’s one example.
We can trade box spreads expiring at the end of June. We buy the $4,000/$5,000 call spread for $22,365.00 and simultaneously buy the $5,000/$4,000 put spread for $76,620. This trade costs $98,985.00, and by lending this amount (on April 21, 2023), you will receive $1,015.00 upon maturity. Yes, you will have $99,000.00 cash tied up, but you should be able to use $99,000.00 in buying power in other trades if you have that portfolio margin component which is so important.
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See you later!
About
Welcome to the Daily Brief by Physik Invest, a soon-to-launch research, consulting, trading, and asset management solutions provider. Learn about our origin story here, and consider subscribing for daily updates on the critical contexts that could lend to future market movement.
Separately, please don’t use this free letter as advice; all content is for informational purposes, and derivatives carry a substantial risk of loss. At this time, Capelj and Physik Invest, non-professional advisors, will never solicit others for capital or collect fees and disbursements. Separately, you may view this letter’s content calendar at this link.
Bank of America Corporation (NYSE: BAC) sees allocations to equities versus bonds falling. That’s amid recession fears. Per EPB, “the cyclical economy has just started to shed jobs today, and leading indicators signal the recession is likely underway.”
“To get advanced warning of recessions, you must look at the construction and manufacturing sectors, even though these two sectors are only 13% of the labor market,” EPB adds, noting traditional indicators’ weakening predictability is not so great to ignore the insight. “It’s clear that the composition of traditional leading indicators remains appropriate, and thus, the current resounding recessionary signal should not be ignored.”
BAC strategist Michael Hartnett said, though, that this “consensus lust for recession” must soon be satisfied. Otherwise, the “pain trade” would be even higher yields and stocks; the S&P 500 (INDEX: SPX) is enjoying an accelerated rally which Jefferies Financial Group (NYSE: JEF) strategists think portends a period of flatness, now, over the coming weeks …
Graphic: Retrieved from Jefferies Financial Group (NYSE: JEF) via The Market Ear.
… and through options expiration (OpEx), typically a poor performance period for the SPX.
Beyond the uninspiring fundamentals, the positioning contexts are supportive. Recall our letters published earlier this year. If the market consolidated and failed to break substantially, then falling implied volatility (IVOL) and time passing would bolster markets and, potentially, help build a platform for a rally into mid-year. A check of fixed-strike and top-line measures of IVOL like the Cboe Volatility Index or VIX confirms options activities are keeping markets intact.
Graphic: Retrieved from Danny Kirsch of Piper Sandler (NYSE: PIPR). “SPX May $4,150.00 call volatility, the lack of realized volatility weighing on the market. Volatility low, not cheap.”
Beyond the rotation into shorter-dated options, just one of the factors exacerbating the decimation of longer-dated volatility, traders’ consensus is that markets won’t move a lot and/or they don’t need to hedge over longer time horizons; traders want punchier exposure to realized volatility (RVOL), and that they can get through shorter-dated options that have more gamma (i.e., exposure to changes in movement), not vega (i.e., exposure to changes in implied volatility).
Graphic: Retrieved from Goldman Sachs Group Inc (NYSE: GS) via Bloomberg.
Consequently, counterparties may be less dangerous to accelerating movement in either direction; hence, the growing likelihood of a period of flatness.
“Despite the collapse in the 1-month realized volatility, we suspect most vol control funds have scaled into using their longer-term realized vols, which by design, lead to less aggressive rebalancing flows,” Tier1Alpha says. “For example, the 3-month rVol, which is currently driving our model, was essentially unchanged yesterday, which means volatility targets were maintained, and very little additional rebalancing had to occur. So even with the decline in the 1-month vol, overall risk exposure remained the same.”
With IVOL at a lower bound, the bullish impacts yielded by its compressing have largely played out. There may be more to be gained by movements higher in IVOL, in addition to the expiry of many call options this OpEx. By owning protection, particularly far from current prices, you are positioned to monetize on the market downside and non-linear repricings of volatility, as this letter has discussed in recent history. The caveat is that volatility can cluster and revert for longer; hence, your structure matters.
“I am concerned that VIX is underpricing the series of events that we know to expect over the coming weeks,” says Interactive Brokers Group Inc’s (NASDAQ: IBKR) Steve Sosnick. “While there is now an 88% implied likelihood of a 25 basis point hike, the likely path of any potential future hikes and assumed cuts should be more clarified at the meeting and in its aftermath. And oh, has anyone ever heard the expression “sell in May and go away?”
Graphic: Retrieved from Interactive Brokers Group Inc (NASDAQ: IBKR).
With call skews far up meaningfully steep in some products, still-present low- and zero-cost call structures this letter has talked about in the past remain attractive. If the market falls apart, your costs are low, and losses are minimal. If markets move higher into a “more combustible” position, wherein “volatility is sticky into a rally,” you may monetize your call structures and roll some of those profits into bear put spreads (i.e., buy put and sell another at a lower strike). An alternative option is neutral. Own something such as a T-bill or box spread (i.e., buy call and sell put at one strike and sell call and buy put at another higher strike). Some boxes are yielding upwards of 5.4% as of yesterday’s close.
To end, though the short-dated options activity may prompt cascading events in market downturns, the main issue is the reduced use of longer-dated options; a supply and demand imbalance likely resolves itself with an implied volatility repricing of a great size where longer-dated options outperform those that are shorter-dated.
Our locking in of rates or using the profits of call structures to position for a potential IVOL repricing, particularly in the back half of the year when dealer positioning is less clear, buybacks are to fall off of a cliff, rates may fall, and the boost from short-covering has played its course, is an attractive proposition given the context.
Graphic: Retrieved from Bloomberg. “The S&P 500 (white line) is well above its levels from early March, while the yield on the 3m-2y spread remains in a deep inversion, signifying meaningful expectations of cuts in the months ahead.”
About
Welcome to the Daily Brief by Physik Invest, a soon-to-launch research, consulting, trading, and asset management solutions provider. Learn about our origin story here, and consider subscribing for daily updates on the critical contexts that could lend to future market movement.
Separately, please don’t use this free letter as advice; all content is for informational purposes, and derivatives carry a substantial risk of loss. At this time, Capelj and Physik Invest, non-professional advisors, will never solicit others for capital or collect fees and disbursements. Separately, you may view this letter’s content calendar at this link.
Graphic updated 8:00 AM ET. Sentiment Neutral if expected /MES open is inside of the prior day’s range. /MES levels are derived from the profile graphic at the bottom of this letter. Click here for the latest levels. SqueezeMetrics Dark Pool Index (DIX) and Gamma (GEX) with the latter calculated based on where the prior day’s reading falls with respect to the MAX and MIN of all occurrences available. A higher DIX is bullish. The lower the GEX, the more (expected) volatility. Click to learn the implications of volatility, direction, and moneyness. Breadth reflects a reading of the prior day’s NYSE Advance/Decline indicator. The CBOE VIX Volatility Index (INDEX: VVIX) reflects the attractiveness of owning volatility. UMBS prices via MND. Click here for the economic calendar.
Administrative
Keeping it brief for today. Enjoy your Friday. Be opportunistic and watch your risk.
Positioning
For days prior, top-line measures of implied volatility or IVOL like the Cboe Volatility Index (INDEX: VIX) fell, as did the Cboe VIX Volatility Index (INDEX: VVIX), the latter which is a way to gauge the expensiveness of IVOL or convexity. It was, in part, the resolution of a recent liquidity crisis that prompted this to happen. Under the hood, volatility skew told a different story; traders were hedging against tail outcomes.
Even so, this hedging and volatility skew behavior did little to boost the pricing of most spread structures above and below the market we analyzed. The non-stickiness of IVOL into this rally may have been detrimental to the more expensive call options structures, as we expected; hence, our consistent belief that structures should be kept at low- or no-cost.
The environment changed yesterday, however. Both top- and bottom-line measures of IVOL were sticky into equity market strength. This was observed via the pricing of spread structures (e.g., verticals and back- and ratio-spreads) structured above and below the market. The stickiness of volatility seemed to impact most the put side of the market. Some savvy traders may have been able to build spread structures below the market at a lesser cost potentially.
As an aside, some may have observed how well our levels have been working. For instance, as shown below (middle bottom), yesterday’s Daily Brief levels marked the session high and low for the Micro E-mini S&P 500 Index (FUTURE: /MES).
Graphic: Retrieved from TradingView.
Commentators online have rightly pointed out the build-up of short-dated options exposures near current market prices. In short, this activity, and its potential hedging, help promote mean-reversion and responsiveness at our volume profile-derived key levels, which often overlap with centers of significant options activity, as we see. Particularly after the quarterly options expiry (OpEx), this activity’s ability to contain markets will ease; markets will yield to fundamental strengths or weaknesses. Based on top-line measures of breadth and IVOL, “there isn’t much juice left to squeeze,” SpotGamma says. From an options positioning perspective, for volatility to reprice lower and solicit re-hedging that boosts the market, “we need a change in [the] volatility regime (i.e., soft landing, bank crisis resolved, etc.),” SpotGamma adds. The likelihood of that happening is low; some expect the Federal Reserve (Fed) to stick to its original message and continue to tighten and withdraw liquidity. So, blindly selling options (colloquially referred to as volatility) in this environment is dangerous.
Graphic: Retrieved from Bloomberg’s Joe Weisenthal.
Damped Spring’s Andy Constan overlays past and present inflation fights. What if?
Graphic: Retrieved from Andy Constan of Damped Spring Advisors.
Technical
As of 8:00 AM ET, Friday’s regular session (9:30 AM – 4:00 PM ET) in the S&P 500 will likely open in the middle part of a balanced overnight inventory, inside of the prior day’s range, suggesting a limited potential for immediate directional opportunity.
The S&P 500 pivot for today is $4,087.75.
Key levels to the upside include $4,097.25, $4,108.75, and $4,121.25.
Key levels to the downside include $4,077.75, $4,062.25, and $4,049.75.
Disclaimer: Click here to load the updated key levels via the web-based TradingView platform. New links are produced daily. Quoted levels likely hold, barring an exogenous development.
Graphic: 65-minute profile chart of the Micro E-mini S&P 500 Futures (bottom middle).
About
The author, Renato Leonard Capelj, spends the bulk of his time at Physik Invest, an entity through which he invests and publishes free daily analyses to thousands of subscribers. The analyses offer him and his subscribers a way to stay on the right side of the market.
You may view this letter’s content calendar at this link.
Disclaimer
Do not construe this newsletter as advice; all content is for informational purposes, and derivatives carry a substantial risk of loss. Capelj and Physik Invest, non-professional advisors, will never solicit others for capital or collect fees and disbursements for their work.
Physik Invest’s Daily Brief is a free newsletter sent to thousands of subscribers daily. Intrigued about what moves markets and how that can impact your financial wellness? Subscribe below.
Graphic updated 7:00 AM ET. Sentiment Risk-On if expected /MES open is above the prior day’s range. Click here for the latest levels. /MES levels are derived from the profile graphic at the bottom of this letter. SqueezeMetrics Dark Pool Index (DIX) and Gamma (GEX) with the latter calculated based on where the prior day’s reading falls with respect to the MAX and MIN of all occurrences available. A higher DIX is bullish. The lower the GEX, the more (expected) volatility. Click to learn the implications of volatility, direction, and moneyness. Breadth reflects a reading of the prior day’s NYSE Advance/Decline indicator. The CBOE VIX Volatility Index (INDEX: VVIX) reflects the attractiveness of owning volatility. UMBS prices via MND. Click here for the economic calendar.
Administrative
The newsletter format needs to evolve a bit. Feedback is welcomed! If you are looking for the link to the daily chart, see the caption below the graphic above. Take care!
Positioning
Fear of contagion prompted demands for protection. Measures of implied volatility or IVOL rose, and consequently, these demands for protection pressured markets.
Previously, this letter explained for protection to keep its value, there would have to be a shift higher in realized volatility or RVOL. Well, RVOL did not come back in a big way at the index level, as many expected.
Thus, the positive effects of the bank-related stimulation and traders’ pulling forward their timeline for easing were compounded by the unwinding of hedging strategies.
Graphic: Retrieved from Bloomberg via SpotGamma. “This drop in 5-day realized vol (orange) is pretty sharp, given it occurred from such a low relative level. ‘Can’t short it, don’t want to buy it.’ This vol decline comes as SPX put open interest was cleared with March OPEX, and big VIX call interest expired last week.”
Previously depressed products like the Nasdaq 100 or NDX, which are generally very sensitive to monetary tightening, have performed well.
Graphic: Retrieved from Callum Thomas’ Topdown Charts.
As we near month-end, there is a quarterly derivatives expiry. Above current S&P 500 or SPX levels is a significant concentration of soon-to-roll-off open interest held short by investors. This means the counterparties are dynamically hedging a call they own; they’re selling strength and buying weakness, albeit in a less and less meaningful way, as those options near this expiration and their probability of paying out (i.e., delta or exposure to direction) falls.
Some would allege that volatility compression and time decay would have solicited a more meaningful response from options counterparties at those strike prices above; the absence of downside follow-through had traders supplying previously demanded downside put protection and catalyzing a rally. However, there are not many things for the market to rally on, and so much time has passed that the charm effects (i.e., the impact of time passing on an options delta) have lessened dramatically, some explain.
Graphic: Retrieved from Bloomberg via Liz Young. “The Nasdaq’s Cumulative Advance-Decline line has parted ways with index direction in recent days. In other words, the index has rallied despite weak breadth (more stocks falling than rising), the two lines are likely to find their way back together somehow…”
Therefore, it’s probably likely that the market remains contained through month-end. After, movement may increase. This letter acknowledged RVOL might come back in a big way, particularly with the bank intervention doing more to thwart credit creation.
The caveat is that markets can trade spiritedly for far longer. There is a potential for the markets to move into a far “more combustible” position. With call skews far up meaningfully steep, still-present low- and zero-cost call structures this letter has talked about in the past remain attractive.
Graphic: Retrieved from Charles Schwab Corporation-owned (NYSE: SCHW) thinkorswim.
If the market falls apart, your costs are low, and losses are minimal. If markets move higher into that “more combustible” position, wherein “volatility is sticky into a rally,” you may monetize your call structures and roll some of those profits into bear put spreads (i.e., buy put and sell another at a lower strike).
The signs of a “more combustible situation” would likely show when “volatility is sticky into a rally,” explains Kai Volatility’s Cem Karsan. To gauge combustibility, look to the options market.
Remember, calls trade at a lower IVOL than puts. As the market trades higher, it slides to a lower IVOL, reflected by broad IVOL measures. If broad IVOL measures are sticky/bid, “that’s an easy way to say that fixed-strike volatility is coming up and, if that can happen for days, that can unpin volatility and create a situation where dealers themselves are no longer [own] a ton of volatility; they start thinning out on volatility themselves, and that creates a more combustible situation.”
To explain the “thinning out” part of the last paragraph, recall participants often opt to own equity and downside (put) protection financed, in part, with sales of upside (call) protection. More demand for calls will result in counterparties taking on more exposure against movement (i.e., negative gamma) hedged via purchases of the underlying. Once that exposure expires and/or decays, that dealer-based support will be withdrawn. If the assumption is that equity markets are expensive now, then, after another rally, there may be more room to fall, all else equal (a simplistic way to look at this), hence the increased precariousness and combustibility.
Graphic: Retrieved from Callum Thomas’ Topdown charts.
About
The author, Renato Leonard Capelj, spends the bulk of his time at Physik Invest, an entity through which he invests and publishes free daily analyses to thousands of subscribers. The analyses offer him and his subscribers a way to stay on the right side of the market.
You may view this letter’s content calendar at this link.
Disclaimer
Do not construe this newsletter as advice; all content is for informational purposes. Capelj and Physik Invest are non-professional advisors managing their own capital. They will never openly solicit others for capital or manage others’ capital to collect fees and disbursements.
Physik Invest’s Daily Brief is read free by thousands of subscribers. Join this community to learn about the fundamental and technical drivers of markets.
Graphic updated 7:00 AM ET. Sentiment Neutral if expected /MES open is inside of the prior day’s range. /MES levels are derived from the profile graphic at the bottom of this letter. Click here for the latest levels. SqueezeMetrics Dark Pool Index (DIX) and Gamma (GEX) with the latter calculated based on where the prior day’s reading falls with respect to the MAX and MIN of all occurrences available. A higher DIX is bullish. The lower the GEX, the more (expected) volatility. Click to learn the implications of volatility, direction, and moneyness. Breadth reflects a reading of the prior day’s NYSE Advance/Decline indicator. The CBOE VIX Volatility Index (INDEX: VVIX) reflects the attractiveness of owning volatility. UMBS prices via MND. Click here for the economic calendar.
Administrative
Time for something inspiring! Separate from his work at Physik Invest, founder Renato Leonard Capelj is a journalist interviewing global leaders in business, government, and finance. In his desire to learn and apply the methods of those others who are far more experienced, Capelj has a long list of interviews you may find helpful in strengthening your understanding of markets. Check out some recent ones!
Capelj spoke with Simplify Asset Management’s Michael Green about cutting investors’ portfolio volatility while amplifying profit potential.
In response to uncertainty, Green says investors can park cash in short-term near-risk-free bonds yielding 5% or more, as well as allocate some capital to volatility “to introduce a degree of convexity,” risking only the premium paid. Alternatively, investors can take a more optimistic long view and position in innovations like artificial intelligence or next-generation energy production.
Capelj spoke with The Ambrus Group’s Kris Sidial about his market perspectives.
Naive measures like the VVIX, which is the volatility of the VIX or the volatility of the S&P 500’s volatility, are printing at levels last seen in 2017, Sidial explains, noting this would suggest “we can get cheap exposure to convexity while a lot of people are worried.”
“Even if inflation continues, the rate at which it rises won’t be the same. Due to this, CTA exposures likely will not perform as well as they did in 2022, and that’s why you may see more opportunities in the volatility space.”
Capelj spoke with Damped Spring Advisors’ Andy Constan about what investors should focus on and how he creates trades that lose him less money.
Constan’s trades are constructed around two- to four-month time horizons and are structured long and short using defined-risk options trades like debit or credit spreads, depending on whether volatility is cheap or expensive.
“I want deltas and leverage. My macro indicators give me an edge on price and in the worst case, the loss is limited to 10%, if everything has to go against me all at once. I can be 100% invested and only risk 10%.”
Capelj spoke with 42 Macro’s Darius Dale about his Wall Street story and perspectives on life and markets.
“We’re tracking at an above-potential level of output in terms of the growth rate of output. We’re also slowing and the pace of that deceleration is likely to pick up steam in the coming quarters.”
By 2023, that process is likely to “catalyze pressure on asset markets through the lens of corporate earnings and valuations you assign to a lower level of growth.”
Floor traders, according to Reznicek, had low capital requirements. As a result, they could put on strategies like the 1×2 ratio — a debit spread with an extra short option — for a low cost.
(See parts 1, 2, and 3 of ShadowTrader’s how-to series on ratio spreads.)
“On the floor, it is either go big or go home,” he chuckled, remarking that ratio spreads were the way of the casino. “You either get rich or they take your house. So, why would you put on any other spread?”
The next big turning point was Jim Dalton, who’s been a member of the Chicago Board of Trade, as well as a member of the Chicago Board Options Exchange (CBOE) and senior executive vice president of the CBOE during its formative years.
“I’m still in touch with him on a regular basis and I consider him a friend,” Reznicek said in a discussion on Dalton’s works like Mind Over Markets and Markets in Profile, as well as his use of WindoTrader Market Profile software. “I went to Chicago twice to see him teach live … and I came home from those seminars with five, six, 10 pages of notes. The nuances of profile continue to mold me.”
Capelj spoke with Kai Volatility Advisors’ Cem Karsan about the implications of record valuations and the growth of derivatives markets on policy, the economy, and financial markets.
“It’s not a coincidence that the mid-February to mid-March 2020 downturn literally started the day after February expiration and ended the day of March quarterly expiration. These derivatives are incredibly embedded in how the tail reacts and there’s not enough liquidity, given the leverage, if the Fed were to taper.”
Capelj spoke with The Ambrus Group’s Kris Sidial to understand how to capitalize on volatility dislocations.
Unlike standard tail-risk funds which systematically buy equity puts, Ambrus’ approach is bespoke, cutting down on negative dynamics like decay with respect to time.
Given dislocations across single stock skew, term structure, and volatility risk premium, Ambrus will position itself in options with less time to maturity, buying protection up to six weeks out.
“The market will underestimate the distribution,” Sidial said in a conversation on Ambrus’ internal models that spot positional imbalances to determine who is off-sides and in what single asset. “We’re buying things that have happened before and we’re looking for it to carry a heavier beta when the sell-off happens.”
So, by analyzing flow, as well as using internal models to assess the probabilities of deleveraging in a risk-off event, Ambrus is able to venture into individual stocks where there may be excess fragility; “I know if stock XYZ goes down five percent, it’s going to go down 10% because this fund needs to deleverage.”
To aid the cost to carry, Ambrus utilizes defined-risk, short-volatility, absolute return strategies.
“I’m basically giving you a free put on the market – with a ton of convexity – with something that offers a payout that’s just more than a regular put,” Sidial summarized. “If the market doesn’t do anything, and we do an amazing job, we’re flat and you made money on all your long-only equity exposure.”
Capelj spoke with The Ambrus Group’s Kris Sidial about the meme stock debacle of 2021.
“You have distressed debt hedge funds that focus on shorting these types of companies. Melvin Capital is the one that is singled out due to the media, but they aren’t the only ones.”
Market participants added to the crash-up dynamics. Retail investors aggressively bought stock and short-term call options, while institutional investors further took advantage of the momentum and dislocations.
“You have this dynamic in the derivatives market where there is a gamma squeeze when people are buying way far out-of-the-money calls, and dealers reflexively have to hedge off their risk,” Sidial said.
“It causes a cascading reaction, moving the stock price up because dealers are short calls and they have to buy stock when the delta moves a specific way.”
The participation in the stock on the institutional side has not received much attention, he said.
“We’ve noticed that some of the flow is more institutional,” he said in reference to activity on the level two and three order books, which are electronic lists of buy and sell orders for a particular security.
“You have certain prop guys and other hedge funds that understand what’s going on, and they’re trying to take advantage of it, as well.”
This institutional activity disrupted traditional correlations and caused shares of distressed debt assets like GameStop, BlackBerry Ltd, and AMC Entertainment Holdings Inc to trade in-line with each other.
“This was not some WallStreetBet user, … if you look at how some of these things were moving premarket, you would see GME drop like 2%, BB’s best bid would drop and AMC’s best bid would drop. That’s an algo.”
The takeaway: although the WallStreetBets crowd is getting most of the blame, institutions are also at fault for the volatility.
Technical
As of 7:00 AM ET, Tuesday’s regular session (9:30 AM – 4:00 PM ET) in the S&P 500 will likely open in the lower part of a balanced overnight inventory, inside the prior day’s range, suggesting a limited potential for immediate directional opportunity.
The S&P 500 pivot for today is $4,003.25.
Key levels to the upside include $4,026.75, $4,038.75, and $4,049.75.
Key levels to the downside include $3,980.75, $3,955.00, and $3,937.00.
Disclaimer: Click here to load the updated key levels via the web-based TradingView platform. New links are produced daily. Quoted levels likely hold, barring an exogenous development.
Graphic: 65-minute profile chart of the Micro E-mini S&P 500 Futures.
Definitions
Overnight Rally Highs (Lows): Typically, there is a low historical probability associated with overnight rally-highs (lows) ending the upside (downside) discovery process.
Volume Areas: Markets will build on areas of high-volume (HVNodes). Should the market trend for some time, this will be identified by a low-volume area (LVNodes). The LVNodes denote directional conviction and ought to offer support on any test.
If participants auction and find acceptance in an area of a prior LVNode, then future discovery ought to be volatile and quick as participants look to the nearest HVNodes for more favorable entry or exit.
POCs: Areas where two-sided trade was most prevalent in a prior day session. Participants will respond to future value tests as they offer favorable entry and exit.
Definitions
Volume Areas: Markets will build on areas of high-volume (HVNodes). Should the market trend for some time, this will be identified by a low-volume area (LVNodes). The LVNodes denote directional conviction and ought to offer support on any test.
If participants auction and find acceptance in an area of a prior LVNode, then future discovery ought to be volatile and quick as participants look to the nearest HVNodes for more favorable entry or exit.
About
The author, Renato Leonard Capelj, spends the bulk of his time at Physik Invest, an entity through which he invests and publishes free daily analyses to thousands of subscribers. The analyses offer him and his subscribers a way to stay on the right side of the market.
You may view this letter’s content calendar at this link.
Disclaimer
Do not construe this newsletter as advice. All content is for informational purposes. Capelj and Physik Invest manage their own capital and will not solicit others for it.
Separate from his work at Physik Invest, founder Renato Leonard Capelj is an accredited journalist interviewing prestigious global leaders in business, government, and finance.
In his desire to learn and apply the methods of those others who are far more experienced, Capelj has a long list of interviews you may find helpful in strengthening your understanding of markets.
Capelj spoke with Simplify Asset Management’s Michael Green about cutting investors’ portfolio volatility while amplifying profit potential.
In response to uncertainty, Green says investors can park cash in short-term near-risk-free bonds yielding 5% or more, as well as allocate some capital to volatility “to introduce a degree of convexity,” risking only the premium paid. Alternatively, investors can take a more optimistic long view and position in innovations like artificial intelligence or next-generation energy production.
Capelj spoke with The Ambrus Group’s Kris Sidial about his market perspectives.
Naive measures like the VVIX, which is the volatility of the VIX or the volatility of the S&P 500’s volatility, are printing at levels last seen in 2017, Sidial explains, noting this would suggest “we can get cheap exposure to convexity while a lot of people are worried.”
“Even if inflation continues, the rate at which it rises won’t be the same. Due to this, CTA exposures likely will not perform as well as they did in 2022, and that’s why you may see more opportunities in the volatility space.”
Capelj spoke with Damped Spring Advisors’ Andy Constan about what investors should focus on and how he creates trades that lose him less money.
Constan’s trades are constructed around two- to four-month time horizons and are structured long and short using defined-risk options trades like debit or credit spreads, depending on whether volatility is cheap or expensive.
“I want deltas and leverage. My macro indicators give me an edge on price and in the worst case, the loss is limited to 10%, if everything has to go against me all at once. I can be 100% invested and only risk 10%.”
Capelj spoke with 42 Macro’s Darius Dale about his Wall Street story and perspectives on life and markets.
“We’re tracking at an above-potential level of output in terms of the growth rate of output. We’re also slowing and the pace of that deceleration is likely to pick up steam in the coming quarters.”
By 2023, that process is likely to “catalyze pressure on asset markets through the lens of corporate earnings and valuations you assign to a lower level of growth.”
Floor traders, according to Reznicek, had low capital requirements. As a result, they could put on strategies like the 1×2 ratio — a debit spread with an extra short option — for a low cost.
(See parts 1, 2, and 3 of ShadowTrader’s how-to series on ratio spreads.)
“On the floor, it is either go big or go home,” he chuckled, remarking that ratio spreads were the way of the casino. “You either get rich or they take your house. So, why would you put on any other spread?”
The next big turning point was Jim Dalton, who’s been a member of the Chicago Board of Trade, as well as a member of the Chicago Board Options Exchange (CBOE) and senior executive vice president of the CBOE during its formative years.
“I’m still in touch with him on a regular basis and I consider him a friend,” Reznicek said in a discussion on Dalton’s works like Mind Over Markets and Markets in Profile, as well as his use of WindoTrader Market Profile software. “I went to Chicago twice to see him teach live … and I came home from those seminars with five, six, 10 pages of notes. The nuances of profile continue to mold me.”
Capelj spoke with Kai Volatility Advisors’ Cem Karsan about the implications of record valuations and the growth of derivatives markets on policy, the economy, and financial markets.
“It’s not a coincidence that the mid-February to mid-March 2020 downturn literally started the day after February expiration and ended the day of March quarterly expiration. These derivatives are incredibly embedded in how the tail reacts and there’s not enough liquidity, given the leverage, if the Fed were to taper.”
Capelj spoke with The Ambrus Group’s Kris Sidial to understand how to capitalize on volatility dislocations.
Unlike standard tail-risk funds which systematically buy equity puts, Ambrus’ approach is bespoke, cutting down on negative dynamics like decay with respect to time.
Given dislocations across single stock skew, term structure, and volatility risk premium, Ambrus will position itself in options with less time to maturity, buying protection up to six weeks out.
“The market will underestimate the distribution,” Sidial said in a conversation on Ambrus’ internal models that spot positional imbalances to determine who is off-sides and in what single asset. “We’re buying things that have happened before and we’re looking for it to carry a heavier beta when the sell-off happens.”
So, by analyzing flow, as well as using internal models to assess the probabilities of deleveraging in a risk-off event, Ambrus is able to venture into individual stocks where there may be excess fragility; “I know if stock XYZ goes down five percent, it’s going to go down 10% because this fund needs to deleverage.”
To aid the cost to carry, Ambrus utilizes defined-risk, short-volatility, absolute return strategies.
“I’m basically giving you a free put on the market – with a ton of convexity – with something that offers a payout that’s just more than a regular put,” Sidial summarized. “If the market doesn’t do anything, and we do an amazing job, we’re flat and you made money on all your long-only equity exposure.”
Capelj spoke with The Ambrus Group’s Kris Sidial about the meme stock debacle of 2021.
“You have distressed debt hedge funds that focus on shorting these types of companies. Melvin Capital is the one that is singled out due to the media, but they aren’t the only ones.”
Market participants added to the crash-up dynamics. Retail investors aggressively bought stock and short-term call options, while institutional investors further took advantage of the momentum and dislocations.
“You have this dynamic in the derivatives market where there is a gamma squeeze when people are buying way far out-of-the-money calls, and dealers reflexively have to hedge off their risk,” Sidial said.
“It causes a cascading reaction, moving the stock price up because dealers are short calls and they have to buy stock when the delta moves a specific way.”
The participation in the stock on the institutional side has not received much attention, he said.
“We’ve noticed that some of the flow is more institutional,” he said in reference to activity on the level two and three order books, which are electronic lists of buy and sell orders for a particular security.
“You have certain prop guys and other hedge funds that understand what’s going on, and they’re trying to take advantage of it, as well.”
This institutional activity disrupted traditional correlations and caused shares of distressed debt assets like GameStop, BlackBerry Ltd, and AMC Entertainment Holdings Inc to trade in-line with each other.
“This was not some WallStreetBet user, … if you look at how some of these things were moving premarket, you would see GME drop like 2%, BB’s best bid would drop and AMC’s best bid would drop. That’s an algo.”
The takeaway: although the WallStreetBets crowd is getting most of the blame, institutions are also at fault for the volatility.
Physik Invest’s Daily Brief is read free by thousands of subscribers. Join this community to learn about the fundamental and technical drivers of markets.
Graphic updated 7:00 AM ET. Sentiment Risk-On if expected /MES open is above the prior day’s range. /MES levels are derived from the profile graphic at the bottom of this letter. Click here for the latest levels. SqueezeMetrics Dark Pool Index (DIX) and Gamma (GEX) with the latter calculated based on where the prior day’s reading falls with respect to the MAX and MIN of all occurrences available. A higher DIX is bullish. The lower the GEX, the more (expected) volatility. Click to learn the implications of volatility, direction, and moneyness. Breadth reflects a reading of the prior day’s NYSE Advance/Decline indicator. The CBOE VIX Volatility Index (INDEX: VVIX) reflects the attractiveness of owning volatility. UMBS prices via MND. Click here for the economic calendar.
Administrative
Not all doom and gloom. Make sure to read to the end!
Fundamental
In the Daily Brief for 3/20, we summarized the financial industry and policymaker responses that would turn asset fire sales into managed, orderly asset sales.
The net result of the intervention would be a reduction in credit creation, a tightening of financial conditions, as well as a slowing of the economy and inflation while, potentially, setting “a dangerous precedent that simply encourage[s] future irresponsible behavior” (e.g., risky lending/borrowing), the House Freedom Caucus put eloquently. Basically, the fear is in policymakers underwriting the losses of prevailing carry-type strategies and setting the stage for an even bigger unwind or so-called “Minsky moment,” the “sudden crash of markets and economies that are hooked on debt,” Bloomberg reports.
"Regional banks relied on a business model that relied on uninsured deposits," says @Lazard's @porszag. "The government needs to make explicit what a lot of people are assuming: that for the foreseeable future, uninsured deposits don't exist. Everything is insured." pic.twitter.com/GgZ9ZF2f7r
A systemic credit event is among strategists’ biggest fear, indeed. A Bank of America Corporation (NYSE: BAC) survey shows a credit event happening on the heels of a US shadow banking, corporate debt, and developed-market real-estate collapse. Recall this letter writer’s conversation with Simplify Asset Management’s Michael Green who said he sees “cracks in bubbles like commercial real estate” already appearing, too.
Bloomberg adds that JPMorgan Chase & Co (NYSE: JPM) strategists think the inverted yield curve signals recession and the stocks are likely nearing their high point.
Graphic: Retrieved from Callum Thomas’ Weekly S&P 500 ChartStorm.
JPM adds that market lows won’t occur until interest rate cuts ensue.
Graphic: Retrieved from BNP Paribas ADR (OTC: BNPQY).
Recall 3/20’s letter citing BAC research that finds selling markets on the last Fed rate hike is a good strategy. The “Minsky moment” comment/fear has others at JPM adding that investors should sell into relief bounces.
Graphic: Retrieved from Bank of American Corporation (NYSE: BAC) via The Market Ear.
Most participants foresee rates continuing to rise by at least 25 basis points, per the CME Group Inc’s (NASDAQ: CME) FedWatch Tool. Following Wednesday’s (expected) hike, the path forward appears uncertain. Yesterday, the terminal/peak rate was at 4.75-5.00%. Today, the peak has shifted higher to 5.00-5.25%.
Graphic: Retrieved from CME Group Inc (NASDAQ: CME).
Financials look ready to fall off a cliff, to add. If they do, the whole market likely goes.
Graphic: Retrieved from Callum Thomas’ Weekly S&P 500 ChartStorm.
Positioning
We keep referring back to our Daily Briefs published last week (e.g., 3/13 and 3/14). In those letters, we talked about the growing concern about markets enduring some exogenous shocks.
We opted to take the less extreme side since policymakers’ response was likely to stem (or push into the future) turmoil. Additionally, with participants easing up on their long-equity exposure, equity markets were likely to stay contained, relative to bond markets where the lack of liquidity is an issue, some believe. Anyways, following important events including inflation updates (i.e., CPI) and derivatives expiries, short bursts of strength (particularly in some of the previously depressed products such as the Nasdaq 100 or NDX, as explained 3/17) were likely to ensue heading into the end of this month and next month. Additionally, certain rates trades via options we set forth on 3/14 were ripe for monetization, too.
Rotating into a money market or T-bill fund or box spreads, while allocating some remaining cash to leverage potential by way of some call options structures, appeared attractive. While the T-bill or box spread exposures did not budge much, call options structures as proposed on 3/14 worked (and are likely to continue to work) rather well. The monetization of the rate structures discussed on 3/14 was timely, also.
The potential for coming events including the Federal Reserve’s (Fed) interest rate decision on Wednesday 3/22 to assuage participants’ fears of slowing may, accordingly, prompt fears of missing out on the upside, Bloomberg reports. A response may be FOMO-type demand for call options exposures, coupled with CTAs further “raising their equity exposure” on trend signals and lower volatility, boosting markets into a “more combustible” state as explained on 2/17. This fear of missing out is visible in options volatility skew; traders are hedging those tail outcomes.
Technical
As of 7:00 AM ET, Tuesday’s regular session (9:30 AM – 4:00 PM ET), in the S&P 500, is likely to open in the upper part of a positively skewed overnight inventory, outside of the prior day’s range, suggesting a potential for immediate directional opportunity.
The S&P 500 pivot for today is $4,004.75.
Key levels to the upside include $4,026.75, $4,037.00, and $4,045.25.
Key levels to the downside include $3,994.25, $3,977.00, and $3,959.25.
Disclaimer: Click here to load the updated key levels via the web-based TradingView platform. New links are produced daily. Quoted levels likely hold barring an exogenous development.
Graphic: 65-minute profile chart of the Micro E-mini S&P 500 Futures.
Definitions
Volume Areas: Markets will build on areas of high-volume (HVNodes). Should the market trend for a period of time, this will be identified by a low-volume area (LVNodes). The LVNodes denote directional conviction and ought to offer support on any test.
If participants auction and find acceptance in an area of a prior LVNode, then future discovery ought to be volatile and quick as participants look to the nearest HVNodes for more favorable entry or exit.
POCs: Areas where two-sided trade was most prevalent in a prior day session. Participants will respond to future tests of value as they offer favorable entry and exit.
Options Expiration (OPEX): Reduction in dealer Gamma exposure. There may be an increase in volatility after the removal of large options positions and associated hedging.
Volume-Weighted Average Prices (VWAPs): A metric highly regarded by chief investment officers, among other participants, for quality of trade. Additionally, liquidity algorithms are benchmarked and programmed to buy and sell around VWAPs.
About
The author, Renato Leonard Capelj, spends the bulk of his time at Physik Invest, an entity through which he invests and publishes free daily analyses to thousands of subscribers. The analyses offer him and his subscribers a way to stay on the right side of the market.
You may view this letter’s content calendar at this link.
Disclaimer
Do not construe this newsletter as advice. All content is for informational purposes. Capelj and Physik Invest manage their own capital and will not solicit others for it.
Physik Invest’s Daily Brief is read free by thousands of subscribers. Join this community to learn about the fundamental and technical drivers of markets.
Graphic updated 8:10 AM ET. Sentiment Neutral if expected /MES open is inside of the prior day’s range. /MES levels are derived from the profile graphic at the bottom of this letter. Click here for the latest levels. SqueezeMetrics Dark Pool Index (DIX) and Gamma (GEX) with the latter calculated based on where the prior day’s reading falls with respect to the MAX and MIN of all occurrences available. A higher DIX is bullish. The lower the GEX, the more (expected) volatility. Click to learn the implications of volatility, direction, and moneyness. Breadth reflects a reading of the prior day’s NYSE Advance/Decline indicator. The CBOE VIX Volatility Index (INDEX: VVIX) reflects the attractiveness of owning volatility. UMBS prices via MND. Click here for the economic calendar.
Fundamental
As well summarized by Eric Basmajian, inflation, and growth are on a downward trajectory. Most leading indicators “suggest recessionary pressure will be ongoing.” The banking crisis and response, which will ultimately “cause a tightening of lending to the private economy,” likely exacerbates the ongoing recessionary pressures.
Most strategists including the Damped Spring’s Andy Constan agree. In a recent video, Constan detailed the implications of policymakers’ intervention. In short, an asset fire sale was turned into a managed sale, and a reduction in credit creation will tighten financial conditions, slowing the economy and inflation.
“Small banks that are facing deposit outflows will see earnings and margins collapse as their cost of funds surges from 1% or 2% on deposits to 4% or 5% at the Fed funding facility,” Basmajian summarizes, noting that the increase in the Federal Reserve (Fed) balance sheet came from the discount window, new bank funding facilities, and spillover from the FDIC insurance backstop, all of which are not to be confused with quantitative easing or QE (i.e., monetary stimulus and a flow of capital into capital markets).
Graphic: Retrieved from Bank of American Corporation (NYSE: BAC) via The Market Ear.
“As deposits leave regional and smaller banks for more yield and safety, they will flow into bigger banks that do less lending or into money market funds that don’t drive credit creation.” Consequently, there will be “a significant tightening of lending standards, and a credit crunch on the private economy as regional and smaller banks face massive funding pressure.”
Graphic: Retrieved from Morgan Stanley (NYSE: MS) via The Market Ear. “MS models show that a permanent +10pt tightening in lending standards for C&I loans leads to a 35bps rise in the unemployment rate over the next two years. Historically, recessions have arrived more than half a year after jobless claims begin a sustained rise.”
Traders are conflicted about the Fed’s coming interest rate decision. Many were expecting a couple more hikes of at least 25 basis points in size. However, following the recent bank turmoil in the US and abroad, it appears that traders think it will be one additional 25 basis point hike before rate cuts ensue in mid-2023.
Graphic: Retrieved from CME Group Inc’s (NASDAQ: CME) FedWatch Tool.
Historically, selling markets on the last Fed rate hike is a good strategy, Bank of America found.
Graphic: Retrieved from Bank of American Corporation (NYSE: BAC) via The Market Ear.
Positioning
Top-line measures of implied volatility or IVOL including the Cboe Volatility Index or VIX are higher heading into Monday’s trade.
Macro uncertainties have some frightened, hence “equity volatility present[ing] itself in a much stronger way,” said The Ambrus Group’s Kris Sidial. For this equity volatility (i.e., implied volatility or IVOL) to continue performing well, realized volatility or RVOL (i.e., the movement that actually happens and is not implied by traders’ supply and demand of options) must shift and stay higher as well (note: in many ways RVOL and IVOL reinforce the other during extreme greed or fear events.
Though big options expiries (OpEx) “may help unpin the market” and manifest market downside and follow-through in RVOL needed to keep IVOL performing, the window for this to happen may be closing.
The monetization of profitable options structures, as well as volatility compression and options decay, may result in counterparties buying back their short stock and/or futures hedges (to the short put positions they have on), thus boosting the market (particularly the depressed and rate-sensitive Nasdaq 100).
If the market rallies, that has the potential to “make things hotter” in the economy, explained Kai Volatility’s Cem Karsan, which emboldens policymakers to make and keep policy tighter. So, barring follow-through to the downside, any equity market upside that arises is likely limited, as a disclaimer, some think.
Apologies for rushing this section, today. More on positioning in the coming letters.
Technical
As of 8:10 AM ET, Monday’s regular session (9:30 AM – 4:00 PM ET), in the S&P 500, is likely to open in the middle part of a negatively skewed overnight inventory, inside of the prior day’s range, suggesting a limited potential for immediate directional opportunity.
The S&P 500 pivot for today is $3,946.75.
Key levels to the upside include $3,970.75, $3,994.25, and $4,026.75.
Key levels to the downside include $3,912.25, $3,891.00, and $3,868.25.
Disclaimer: Click here to load the updated key levels via the web-based TradingView platform. New links are produced daily. Quoted levels likely hold barring an exogenous development.
Graphic: 65-minute profile chart of the Micro E-mini S&P 500 (FUTURE: /MES) bottom-middle.
Definitions
Volume Areas: Markets will build on areas of high-volume (HVNodes). Should the market trend for a period of time, this will be identified by a low-volume area (LVNodes). The LVNodes denote directional conviction and ought to offer support on any test.
If participants auction and find acceptance in an area of a prior LVNode, then future discovery ought to be volatile and quick as participants look to the nearest HVNodes for more favorable entry or exit.
POCs: Areas where two-sided trade was most prevalent in a prior day session. Participants will respond to future tests of value as they offer favorable entry and exit.
About
The author, Renato Leonard Capelj, spends the bulk of his time at Physik Invest, an entity through which he invests and publishes free daily analyses to thousands of subscribers. The analyses offer him and his subscribers a way to stay on the right side of the market.
You may view this letter’s content calendar at this link.
Disclaimer
Do not construe this newsletter as advice. All content is for informational purposes. Capelj and Physik Invest manage their own capital and will not solicit others for it.
Physik Invest’s Daily Brief is read free by thousands of subscribers. Join this community to learn about the fundamental and technical drivers of markets.
Graphic updated 8:50 AM ET. Sentiment Neutral if expected /MES open is inside of the prior day’s range. /MES levels are derived from the profile graphic at the bottom of this letter. Click here for the latest levels. SqueezeMetrics Dark Pool Index (DIX) and Gamma (GEX) with the latter calculated based on where the prior day’s reading falls with respect to the MAX and MIN of all occurrences available. A higher DIX is bullish. The lower the GEX, the more (expected) volatility. Click to learn the implications of volatility, direction, and moneyness. Breadth reflects a reading of the prior day’s NYSE Advance/Decline indicator. The CBOE VIX Volatility Index (INDEX: VVIX) reflects the attractiveness of owning volatility. UMBS prices via MND. Click here for the economic calendar.
Fundamental
Higher asset prices boosted household wealth and demand; consumers’ increased ability to spend more wealth pushed up inflation. If policymakers use their tools to lower household wealth and demand, this should cut down on inflation.
Kai Volatility’s Cem Karsan says the latter was a policy objective and recent financial institution failures are a sign of follow-through; excesses and speculation are being removed, as policymakers desired.
Put your bracket aside, it’s time for some fresh crumbs 🥐🥐🥐@jam_croissant breaks down how he's looking at volatility trends ahead of the next Fed action with @OJRenick: https://t.co/Aj1piKmJXS
Policymakers don’t want liquidations, however. They want lower asset prices. Recent events put policymakers in an odd position after raising rates non-stop. In the Federal Reserve’s (Fed) case, and we paraphrase Karsan, policy/rates moved very quickly with little pause. With there being a lag, the Fed may want to pause and assess. However, they have to telegraph this carefully so that the market does not read it as a pivot. If the market rallies, that “makes things hotter,” Karsan says.
Before BTFP. Fire sale of assets from bank experiencing a run. Bank getting new deposit already has desired equity risk and no need to lever
After BTFP 1 year to sell assets of losing bank Bank getting new deposit already has desired equity risk and no need to lever
There’s already been an overreaction in the bond market, he adds, which is not ideal. The Fed does not want the long end of the yield curve to fall, as it has on the back of the turmoil and intervention, as well as data including housing starts which show more supply coming onto the market, likely a mortgage application booster in the near term.
Even at the front end, there’s been lots of movement. This has “forc[ed] widespread risk liquidation,” Bloomberg says. Take a look at the Three-Month SOFR (FUTURE: /SR3), a tool used to hedge USD short-term interest rates.
Graphic: Retrieved from Charles Schwab Corporation-owned (NYSE: SCHW) TD Ameritrade’s thinkorswim platform.
The consensus, which Karsan agrees with, is that the Fed moves forward with a 25 basis point hike while telegraphing it wants the long end of the curve to rise or higher for longer as it is colloquially referred to.
Graphic: Retrieved from CME Group Inc’s (NASDAQ: CME) FedWatch Tool.
It is possible for the US policymakers to adopt a meeting-by-meeting stance, as their counterparts have in Europe, letting uncertainties regarding the likes of Credit Suisse Group AG (which just received a ~$54 billion or so liquidity backstop and is mulling a combination with other lenders), SVB Financial Group (NASDAQ: SVB) and First Republic Bank (NYSE: FRC) pan out.
Graphic: Retrieved from Bloomberg. “[T]he credit extended through the two backstops show a banking system that is still fragile and dealing with deposit migration in the wake of the failure of Silicon Valley Bank of California and Signature Bank of New York last week.” Per John Authers: the phenomenal borrowing from the Fed’s discount window suggests that if these are just liquidity problems, they are widespread and serious. Further, the point of the exercise is to slow down the economy, which will in time tend to put pressure on banks’ solvency.”
Pausing, or intending to pause explicitly, could raise inflation expectations or “boost the odds of a recession by spooking consumers and companies into believing that the economy is worse off than they thought,” Bloomberg explains, noting: “All told, the emergency loans reversed around half of the balance-sheet shrinkage that the Fed has achieved since it began so-called quantitative tightening — allowing its portfolio of assets to run down — in June last year.”
Graphic: Compiled by Physik Invest.Per Jefferies Financial Group Inc’s (NYSE: JEF) Christopher Wood: “2022 was the year when US equities suffered multiple contraction from monetary tightening. This year will be the year when earnings downgrades hit the stock market if the US recession forecast proves to be accurate. This is now the key issue in world financial markets. Then 2024 will be the year when markets will have to deal with the emerging credit problems in the private space.”
Positioning
Heading into this most recent market decline, investors foresaw increased volatility and were positioned for it as indicated by the pricing of tail risk and performance of implied volatility or IVOL (as investors continued to demand protection during this window of non-strength), said Laya Royer of Citadel Securities.
Recall that Kris Sidial warned us of this. Options, colloquially referred to as volatility, would serve as the only hedge in an environment wherein commodities, stocks, and bonds don’t combine or balance each other as well as they did in 2022.
Now, there are options expirations (OpEx) nearing (March 16 and 31); monetization of profitable options structures, as well as volatility compression and options decay, have counterparties buying back their short stock and/or futures hedges (to the short put positions they have on), boosting the market (particularly the depressed and rate-sensitive Nasdaq 100) through this OpEx/triple witching window.
Graphic: Retrieved from Cboe Global Markets (BATS: CBOE).
Following this period, the “rollover” of existing positions may result in “price swings” that last, Bloomberg puts forth. “This quarterly expiry may help unpin the market.”
Structures proposed in the Daily Brief for March 14 may work in reducing portfolio downside while allowing you to participate directionally at less cost.
Technical
As of 8:50 AM ET, Friday’s regular session (9:30 AM – 4:00 PM ET), in the S&P 500, is likely to open in the lower part of a negatively skewed overnight inventory, inside of the prior day’s range, suggesting a limited potential for immediate directional opportunity.
The S&P 500 pivot for today is $3,970.75.
Key levels to the upside include $4,004.75, $4,037.00, and $4,059.25.
Key levels to the downside include $3,946.75, $3,921.25, and $3,891.00.
Disclaimer: Click here to load the updated key levels via the web-based TradingView platform. New links are produced daily. Quoted levels likely hold barring an exogenous development.
Graphic: 65-minute profile chart of the Micro E-mini S&P 500 (FUTURE: /MES) at the middle bottom.
Definitions
Volume Areas: Markets will build on areas of high-volume (HVNodes). Should the market trend for a period of time, this will be identified by a low-volume area (LVNodes). The LVNodes denote directional conviction and ought to offer support on any test.
If participants auction and find acceptance in an area of a prior LVNode, then future discovery ought to be volatile and quick as participants look to the nearest HVNodes for more favorable entry or exit.
POCs: Areas where two-sided trade was most prevalent in a prior day session. Participants will respond to future tests of value as they offer favorable entry and exit.
About
The author, Renato Leonard Capelj, spends the bulk of his time at Physik Invest, an entity through which he invests and publishes free daily analyses to thousands of subscribers. The analyses offer him and his subscribers a way to stay on the right side of the market.
You may view this letter’s content calendar at this link.
Disclaimer
Do not construe this newsletter as advice. All content is for informational purposes. Capelj and Physik Invest manage their own capital and will not solicit others for it.
Physik Invest’s Daily Brief is read free by thousands of subscribers. Join this community to learn about the fundamental and technical drivers of markets.
Graphic updated 6:15 AM ET. Sentiment Risk-Off if expected /MES open is below the prior day’s range. /MES levels are derived from the profile graphic at the bottom of this letter. Click here for the latest levels. SqueezeMetrics Dark Pool Index (DIX) and Gamma (GEX) with the latter calculated based on where the prior day’s reading falls with respect to the MAX and MIN of all occurrences available. A higher DIX is bullish. The lower the GEX, the more (expected) volatility. Click to learn the implications of volatility, direction, and moneyness. Breadth reflects a reading of the prior day’s NYSE Advance/Decline indicator. The CBOE VIX Volatility Index (INDEX: VVIX) reflects the attractiveness of owning volatility. UMBS prices via MND. Click here for the economic calendar.
Administrative
As indicated yesterday, through the end-of-this week, newsletters may be shorter due to the letter writer’s commitments. Therefore, please read the Daily Brief for March 14, if you haven’t already, for a big discussion on bond and equity market volatility, as well as the odds of the market falling apart or rising, and positioning contexts that support that movement. If there are any incomplete statements below, we shall complete them in the coming letters. We’re laying it all out for awareness. Take care!
Fundamental
Headline inflation via CPI (Consumer Price Index) fell most on energy and core goods while shelter, food, and services inflation continues to be sticky. Core prices continue to be high, risking “inflationary psychology [] becoming ingrained,” Bloomberg’s John Authers explains.
“There’s nothing in this report to suggest that inflation is defeated already,” explained Authers. “Not to raise the fed funds rate next week, with median inflation above 7%, would be a sign of panic,” and an acknowledgment of uncertainties with regard to the banking system, as talked about in the Daily Brief on March 14.
To note, however, contagion appears contained, despite Moody’s Corporation (NYSE: MCO) cutting its outlook for the banking system to negative from stable, and placing lenders including First Republic Bank (NYSE: FRC) on a downgrade review.
JPMorgan Chase & Co’s (NYSE: JPM) Marko Kolanovic did cut his equity allocation warning that not all carry trades, something this letter has talked about numerous times before (i.e., borrow at a low rate and invest in something that provides higher return), can be bailed out. Kolanovic appears worried about commercial real estate, which Simplify Asset Management’s Michael Green just told your letter writer is in a bubble that “we’re seeing crack,” finally.
Graphic: Retrieved from Bloomberg. The Federal Reserve’s new Bank Term Funding Program or BTFP is “QE in another name – assets will grow on the Fed balance sheet which will increase reserves.” Recall that QE is the flow of capital into capital markets while QT is the opposite. Q is for quantitative while E is for easing and T is for tightening.
Anyways, following yesterday’s CPI, traders price higher odds of a 25 basis point hike which puts the terminal or peak fed funds rate at 4.75-5.00%. Following this spring, factoring potential inflation plateau and financial system uncertainties, traders foresee the Fed easing. By year-end, traders expect rates to fall down to 3.75-4.00%. Recall that at the beginning of last week, there were no expectations of easing in 2023. Also, traders thought the Fed would raise as high as 5.50-5.75%.
Mortgage rates, determined by changes in the price of mortgage-backed securities or MBSs, fell too.
ARK Invest’s Cathie Wood, who your letter writer had the honor of interviewing in person for Benzinga articles, thinks we’re on the cusp of the “roaring twenties” as inflation “is likely to surprise on the low side of expectations” with the banking crisis also leading to “bad deflation.”
“Today, five major innovation platforms are evolving at the same time – multiomics sequencing, robotics, energy storage, artificial intelligence, and blockchain technology, all of which are converging,” she elaborates.
“Once the Fed stops looking backward at CPI inflation and starts addressing the deflationary banking crisis that a 19-fold increase in short rates and an inverted yield have caused, we would not be surprised to see a return to the Roaring Twenties.”
Graphic: Retrieved from Bloomberg.
On the backward-looking measures quote in the above paragraph, former Fed trader Joseph Wang notes that the Fed and central banks, in general, are aware segments of the market may break, but that won’t discourage them from tightening further.
“As the BOE saved the gilt market through purchases and kept tightening, so the Fed can save banks and keep tightening.”
Positioning
Tuesday’s letter said that following important events like CPI, the compression of wound implied volatility or IVOL, coupled with the nearing large options expirations (OpEx), sets the market up for potential short bursts of strength into the end of the month and next month.
That’s along the lines of what is happening. The S&P 500 rose mechanically after the release of CPI yesterday. Later, though the index succumbed, internally speaking the market remained strong through end-of-day, hence some short bursts boosted by some short-dated options activities, also.
As explained, yesterday, the recent re-grossing theme appears intact. Any further compression of wound IVOL and the passage of options expirations (OpEx) could support equities as month-end approaches. Though it may be too early to position for strength, one may consider it the way it was explained in the Daily Brief on March 14.
Technical
As of 6:15 AM ET, Wednesday’s regular session (9:30 AM – 4:00 PM ET), in the S&P 500, is likely to open in the middle part of a negatively skewed overnight inventory, inside of the prior day’s range, suggesting a limited potential for immediate directional opportunity.
The S&P 500 pivot for today is $3,904.25.
Key levels to the upside include $3,921.75, $3,945.00, and $3,970.75.
Key levels to the downside include $3,884.75, $3,868.25, and $3,847.25.
Disclaimer: Click here to load the updated key levels via the web-based TradingView platform. New links are produced daily. Quoted levels likely hold barring an exogenous development.
Graphic: 65-minute profile chart of the Micro E-mini S&P 500 Futures.
Definitions
Volume Areas: Markets will build on areas of high-volume (HVNodes). Should the market trend for a period of time, this will be identified by a low-volume area (LVNodes). The LVNodes denote directional conviction and ought to offer support on any test.
If participants auction and find acceptance in an area of a prior LVNode, then future discovery ought to be volatile and quick as participants look to the nearest HVNodes for more favorable entry or exit.
POCs: Areas where two-sided trade was most prevalent in a prior day session. Participants will respond to future tests of value as they offer favorable entry and exit.
Volume-Weighted Average Prices (VWAPs): A metric highly regarded by chief investment officers, among other participants, for quality of trade. Additionally, liquidity algorithms are benchmarked and programmed to buy and sell around VWAPs.
About
The author, Renato Leonard Capelj, spends the bulk of his time at Physik Invest, an entity through which he invests and publishes free daily analyses to thousands of subscribers. The analyses offer him and his subscribers a way to stay on the right side of the market.
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Disclaimer
Do not construe this newsletter as advice. All content is for informational purposes. Capelj and Physik Invest manage their own capital and will not solicit others for it.
