Sentiment calmer on the heels of some weaker-than-expected data from China. Generally speaking, markets are holding well, led by technology and innovation.
Graphic: Retrieved from Goldman Sachs Group Inc (NYSE: GS) via The Market Ear.
Price doesn’t tell the whole story, however. Breadth is softening while market boosters are slowly being picked off. Tier1Alpha says that “1-month realized volatility rose nearly 13%, [and] … if volatility continues to rise, it will have an outsized effect on the 1-month vol, as the sample is now largely filled by the smaller returns we experienced in April.” Altogether, this “could result in larger [selling] flows being triggered from systematic strategies that use volatility scaling as a means for risk control.”
Graphic: Retrieved from Bespoke Investment Group via The Market Ear.
“With that vol premium getting squeezed out, there is little room for error,” SpotGamma adds; uncertainties that may manifest pressure and compound weaknesses under the hood include inflation reports and the debt ceiling issue.
“The next big moment comes Tuesday, when President Joe Biden is scheduled to meet House Speaker Kevin McCarthy and other congressional leaders,” Bloomberg explains. “The meeting is high stakes. Republican leaders want promises of future spending cuts before they approve a higher ceiling, while Biden is insisting on a ‘clean’ increase.”
Further, traders expect increased chances of rate cuts. This may not be outlandish; “Looking at the past 17 hiking episodes, the two-year, 10-year Treasury yield curve bottoms out 108 trading days before the first rate cut.”
“Using that guide, the 2s10s curve reached negative 111 basis points on March 8 and has since steepened to about negative 41 basis points. Assuming that marked the trough, 108 trading days lands in mid-August — sandwiched between the Fed’s July 26 and September 20 rate decisions.”
Graphic: Retrieved from Bloomberg. “Look at the gap between the three-month and the 10-year yields, generally regarded as a surefire recession indicator. It’s also a great indicator of imminent rate cuts. An inversion is also a timing signal because it makes little or no sense unless you’re confident that rate cuts will be starting soon. And over the last 30 years, the curve has never been as inverted as it is now.”
For better hedging participation in market upside, check out Physik Invest’s recently published trade structuring report.
Graphic: Retrieved from BNP Paribas (OTC: BNPQY) via Bloomberg. JPMorgan Chase & Co (NYSE: JPM) strategists say that “the first quarter will likely be the high point for stocks this year, … adding that equities won’t reach lows until the Fed has pivoted to rate cuts.”
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.
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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 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 8:00 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.
Fundamental
Note: The write-up on the conversation with Simplify’s Mike Green and your letter writer coming soon. Your letter writer is juggling Physik Invest, Benzinga, and two weeks of jury duty! Oh, my.
Following Federal Reserve (Fed) Chair Jerome Powell’s testimony yesterday, traders shifted their outlook on the path of interest rates. The terminal rate now sits between 5.50% and 5.75%, and there are no cuts priced in 2023. Traders are also anticipating a 0.50% hike at the March meeting, up from 0.25%.
Graphic: Retrieved from CME Group Inc’s (NASDAQ: CME) FedWatch Tool. Updated 3/8/2023.
The likes of Ken Griffin, who is the founder of Citadel and Citadel Securities, said the Fed’s updates have confused investors. He advised Powell to talk less about inflation.
“Every time they take the foot off the brake, or the market perceives they’re taking their foot off the brake, and the job’s not done, they make their work even harder,” he explained. TS Lombard’s Steven Blitz added the downshifts in hikes were a mistake and the testimony was a “tacit admission.”
Anyways, the 2- and 10-year Treasury yield spread is at levels when the Fed’s Volcker tightened up the economy to tackle double-digit inflation. Bespoke Investment notes that after that particular spread inverted in October of 1979, the economy peaked at the end of January 1980 but the stock market remained strong.
“The next year, the S&P 500 rallied 22.9%, the Nasdaq was up 36.0%, and the Russell 2000 was up over 40.0%.”
Graphic: Retrieved from Bloomberg.
However, Bespoke adds that “back then, the S&P 500 was trading for just 7.3 times trailing earnings. Today, the S&P 500 trades at a multiple that’s two-and-a-half times that level.” Per last week’s letters, investors’ salvation may be found in less traditional portfolio constructions. That’s what Simplify Asset Management portfolio manager and strategist Mike Green said to your letter writer last week in an interview as well.
Given the unreliability of data, Green explains, and the positioning, investors can get through a lot of the uncertainty by buying a one-year bond and stepping out.
“A real decrease in the purchasing power of the dollar means stock prices should go up because they are something you’re purchasing like everything else. The problem is that would, then, require significant multiple compression as you move forward. So, corporations would be making more money, but that money would be valued less richly because of the inflation.” Conversely, we see multiple expansions, Green said in casting doubt on recent market strength. “Earnings are actually going down.”
With the S&P 500 trading upwards of 20% above the last decade’s average forward price-to-earnings, traditional rules imply the P/E likely falls, and that is supportive of Green’s doubt and support of alternative portfolio constructions layering bond and volatility (i.e., options) exposure to target a full return of principal at the least.
“Using options allows you to introduce a degree of convexity in portfolios where [you] can take risks with a limited downside because [you’ve] either protected [your] downside or simply expended a degree of premium on it.”
With deterioration in some markets “offset by a lack of inventory” and/or hesitancy to sell, the marginal impact of “one person being in distress” may eventually “set a new clearing price … chang[ing] valuations for everybody.” That’s a good place to be as the owner of options protection.
Technical
As of 7:50 AM ET, Wednesday’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 balanced overnight inventory, outside of the prior day’s range, suggesting a potential for immediate directional opportunity.
The S&P 500 pivot for today is $3,988.25.
Key levels to the upside include $3,999.25, $4,013.00, and $4,024.75.
Key levels to the downside include $3,975.25, $3,965.25, and $3,947.00.
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
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.
MCPOCs: Denote areas where two-sided trade was most prevalent over numerous sessions. 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 6:30 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
Bloomberg’s John Authers summarized well the release of the Federal Open Market Committee (FOMC) meeting minutes. He said that almost all officials “supported a step down in the pace of tightening by 25 basis points, while a ‘few’ favored or could have supported a bigger 50 basis-point hike. Nobody wanted to stop straightaway.”
“Participants observed that a restrictive policy stance would need to be maintained until the incoming data provided confidence that inflation was on a sustained downward path to 2%, which was likely to take some time,” the minutes said.
Graphic: Retrieved from Royal Bank of Canada (NYSE: RY).
Notwithstanding hits to markets like housing, which news has concentrated on, the S&P 500 (INDEX: SPX) is trading about 18x forward price-to-earnings, Bank of America Corporation (NYSE: BAC) said, the highest since March 2022 and 20% above the last decade’s average P/E.
Graphic: Retrieved from Bloomberg.
Per Savita Subramanian, “the traditional Rule of 20 … holds that the multiple should be whatever number results by subtracting the inflation rate from 20 — which with inflation at 6.4% would imply that the P/E needs to fall to 13.6.”
Graphic: Retrieved from Bank of America Corporation (NYSE: BAC) via Bloomberg.
Recall yesterday’s letter discussing the “risk-reward of holding bonds [looking] betterthan equity (earnings yield).”
Graphic: Retrieved from Bloomberg’s Lisa Abramowicz. “Yields on 12-month T-bills have risen to their highest since 2001. Most of this has to do with Fed rate hike expectations.”
Positioning
The SPX’s decline is orderly and contained.
However, the break below $4,000.00 SPX did open the door to a “liquidity hole,” SpotGamma explained. New information has traders anticipating more equity market downside; traders are “reset[ing] to lower equity valuations” on the higher-for-longer rate narrative all the while “vanna and gamma hedging serve to pull markets lower.”
The contexts for a far-reaching rally are weak. A change in the context is likely to coincide with charged options values (i.e., wound implied volatility or big put delta).
Technical
As of 6:30 AM ET, Thursday’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 positively skewed overnight inventory, inside of the prior day’s range, suggesting a limited potential for immediate directional opportunity.
The S&P 500 (FUTURE: /MES) pivot for today is $4,012.25.
Key levels to the upside include $4,024.75, $4,034.75, and $4,045.25.
Key levels to the downside include $4,003.25, $3,992.75, and $3,981.00.
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
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.
Delta: An option’s exposure to the direction or underlying asset movement.
Gamma: The sensitivity of an option’s delta to changes in the underlying asset’s price.
Vanna: The rate at which the delta of an option changes with respect to implied volatility.
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, works in finance and journalism.
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. Separately, Capelj is an options analyst at SpotGamma and an accredited journalist.
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.
The daily brief is a free glimpse into the prevailing fundamental and technical drivers of U.S. equity market products. Join the 980+ that read this report daily, below!
Graphic updated 8:40 AM ET. Sentiment Neutral if expected /ES open is inside of the prior day’s range. /ES levels are derived from the profile graphic at the bottom of the following section. Levels may have changed since initially quoted; click here for the latest levels. SqueezeMetrics Dark Pool Index (DIX) and Gamma (GEX) calculations are 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. At the same time, the lower the GEX, the more (expected) volatility. Learn the implications of volatility, direction, and moneyness. Breadth reflects a reading of the prior day’s NYSE Advance/Decline indicator. VIX reflects a current reading of the CBOE Volatility Index (INDEX: VIX) from 0-100.
Fundamental
More clarity surfaces on the turmoil overseas. After announcements regarding new fiscal policy that would feature steep tax cuts, the prices of longer-dated British bonds fell, prior to the Bank of England (BoE) announcing the purchase of longer-dated bonds to restore stability.
Here’s why the BoE did what it did:
In short, market volatility prompted reflexive feedback responses.
British pensions are required to match assets to liabilities “to ensure that promises to pensioners could be honored,” Bloomberg explained. This prompted purchases of long-dated bonds in size. Essentially, pensions would “enter into swap contracts, using [long-dated bonds] as collateral.”
That’s because “swaps give[] the pension scheme far more capital to assign to those more interesting asset classes with high potential returns rather than having it tied up in boring gilts.”
“If the bet turned out wrong, [pensions would] have to pay something to the counterparty. And, if the collateral suddenly and unprecedentedly took a massive fall, the counterparty would face a margin call.”
In size, these “margin calls had turned into a cascade,” forcing pensions to sell into weakness.
Talk of fund insolvencies and the effects of that on the economy, executives running day-to-day operations, not the BoE’s Monetary Policy Committee (MPC), implemented quantitative easing (QE), essentially, buying bonds and pushing their yields lower to ease market volatility.
In stories that followed, a London-based banker discussed his worry that the situation came close to looking like “a Lehman moment.” Cardano Investment executive Kerrin Rosenberg also said “if there was no intervention [], yields could have gone up to 7-8% from 4.5% [] and, in that situation, around 90 per cent of UK pension funds would have run out of collateral.”
In light of the “madness,” the UK’s Simon Hoare said that actions must be taken at the Treasury and government levels.
Adding, though volatility eased everywhere (e.g., mortgage rates), including in the US markets, the damages are not contained, some explain.
UK investors will often “buy overseas assets and hedge away the currency risk,” Jim Leaviss of Bond Vigilantes explained. Amid all the volatility, “if you had bought a dollar bond and hedged it, the dollars that you have effectively sold ‘short’ against sterling as the hedge have rallied, and the counterparty to the FX hedge will call for a collateral payment.”
“Whilst most funds will hold some cash and extremely liquid government bonds against such moves, the size of the recent turmoil probably means that many investors will be having to liquidate credit and other less liquid assets in order to meet these collateral calls.”
Therefore, the aforementioned technical factors have a bearing on the direction of bonds and yields “over coming months.”
Elsewhere, in China, in alignment with a request for state banks to stock up for FX intervention, the “PBOC hit CNH in illiquid hours to have maximum impact,” as “the trouble the PBOC faces is similar to that of Japan – when domestic conditions call for easy policy (vs. US).”
Bob Elliot of Unlimited Funds adds “the moves are likely to be paired with more announcements of macroprudential strategies to slow depreciation. While they will make headlines, most have proven to be reactive and modest in their impact.”
Therefore, “[g]iven weak domestic conditions, the PBOC is very unlikely to prioritize FX over domestic easing – the diff[erence] to the US will only get worse.”
Graphic: Retrieved from Bloomberg. “Overseas demand for goods from China is weakening as the global economy slows … [and] soaring inflation [among] other headwinds elsewhere suppress global demand.” Accordingly, the “cost of shipping goods from China has slumped to the lowest level in more than two years as the world economy stumbles,” just as the US seeks to build more “resilient supply chains” elsewhere.
Positioning
Measures of implied volatility (IVOL) recorded decreases, yesterday, as traders supplied to the market protection, largely, at the front-end where “options are far more sensitive to changes in IVOL and direction,” as SpotGamma put.
“As IVOL declines and the S&P rises, the probability of those options paying out falls. This is reflected by their exposure to direction (or Delta) dropping, also. To re-hedge decreased exposure to Delta, liquidity providers may provide the market with a boost.”
Graphic: Retrieved from SpotGamma. SPX prices X-axis. Option delta Y-axis. When the factors of implied volatility (Vanna) and time change (Charm), hedging ratios change. The graphic is for illustrational purposes, only.
As stated yesterday, in the very near term, the risks are skewed to the upside.
“For pumped-up options far from the money to retain their value, there essentially needs to be an adverse move (in price and volatility). Should nothing bad happen, the probability of these options paying out will fade, as will their exposure to direction (or Delta).”
Over a longer-term, however, weakness may persist into October amid impacts of quantitative tightening (QT) which is manifesting itself as “$4.5 billion less in demand for assets per day,” as well as the blackout period for buybacks (which were consistently “supporting the market”) and options repositioning bolstering the weakness.
Graphic: Via Physik Invest. Data compiled by @jkonopas623. Fed Balance Sheet data, here. Treasury General Account Data, here. Reverse Repo data, here. NL = BS – TGA – RRP.
Technical
As of 8:30 AM ET, Thursday’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 prior-range and -value, suggesting a limited potential for immediate directional opportunity.
In the best case, the S&P 500 trades higher.
Any activity above the $3,722.50 LVNode puts into play the $3,771.25 HVNode. Initiative trade beyond the $3,771.25 could reach as high as the $3,826.25 and $3,862.25 HVNode, or higher.
In the worst case, the S&P 500 trades lower.
Any activity below the $3,722.50 LVNode puts into play the $3,688.75 HVNode. Initiative trade beyond the HVNode could reach as low as the $3,638.25 LVNode and $3,610.75 HVnode, or lower.
Click here to load today’s key levels into the web-based TradingView charting platform. Note that all levels are derived using the 65-minute timeframe. New links are produced, daily.
Graphic: 65-minute profile chart of the Micro E-mini S&P 500 Futures.
Definitions
Volume Areas: A structurally sound market will build on areas of high volume (HVNodes). Should the market trend for long periods of time, it will lack sound structure, identified as low volume areas (LVNodes). LVNodes denote directional conviction and ought to offer support on any test.
If participants were to auction and find acceptance into areas of prior low volume (LVNodes), then future discovery ought to be volatile and quick as participants look to HVNodes for favorable entry or exit.
About
After years of self-education, strategy development, mentorship, and trial-and-error, Renato Leonard Capelj began trading full-time and founded Physik Invest to detail his methods, research, and performance in the markets.
Capelj also develops insights around impactful options market dynamics at SpotGamma and is a Benzinga reporter.
In no way should the materials herein be construed as advice. Derivatives carry a substantial risk of loss. All content is for informational purposes only.
The daily brief is a free glimpse into the prevailing fundamental and technical drivers of U.S. equity market products. Join the 900+ that read this report daily, below!
Graphic updated 6:20 AM ET. Sentiment Neutral if expected /ES open is inside of the prior day’s range. /ES levels are derived from the profile graphic at the bottom of the following section. Levels may have changed since initially quoted; click here for the latest levels. SqueezeMetrics Dark Pool Index (DIX) and Gamma (GEX) calculations are 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. At the same time, the lower the GEX, the more (expected) volatility. Learn the implications of volatility, direction, and moneyness. Breadth reflects a reading of the prior day’s NYSE Advance/Decline indicator. VIX reflects a current reading of the CBOE Volatility Index (INDEX: VIX) from 0-100.
Fundamental
A hot topic over the past sessions is speculation on the Federal Reserve’s (Fed) next steps and the impact those steps may have.
Further, in the news, last night, aside from the prospects of another big hike, was “the biggest annual increase since 1994” in two-year Treasury yields. That’s in part due to recent upside surprises in inflation talked about yesterday and last week.
Graphic: Retrieved from Bloomberg. US Government Bonds 2 YR Yield and Fed Funds.
Per the CME Group Inc’s (NASDAQ: CME) FedWatch Tool, there’s a near-80% chance of a 50 to 75 basis point bump to the target rate, as the Fed looks to stem inflation.
Graphic: Retrieved from CME Group Inc (NASDAQ: CME).
This is all the while the Fed will let their Treasuries mature and, “instead of using the proceeds to buy another Treasury,” they will “buy nothing and reduce their balance sheet,” explained the Damped Spring’s Andy Constan.
Accordingly, “to pay that bond off, the US Treasury has to issue a bond,” and this bond will need to be “bought by the private sector” which has “to sell something to buy the bond, and that starts at the riskiest asset,” like crypto, watches, and cars, for instance.
Let’s unpack this further, below.
The transmission mechanism of quantitative easing (QE) and tightening (QT) is very weak “to economic activity but very strong to financial markets.”
In a detailed explainer, initially quoted in the September 16 letter, we learned “QE creates new reserves on bank balance sheets. The added cushion gives banks … more room to lend or to finance trading activity by hedge funds, … further enhancing market liquidity.”
Therefore, QE (QT) will mildly inflate (deflate) the economy as asset owners are pushed further out (in) on the risk curve. In practice, with QE, owners get pushed from Treasury to corporate bonds, bonds to equities, equities to crypto, and, finally, homes, watches, cars, and beyond.
With QT, as put forth, earlier, the reverse happens.
As Joseph Wang, author of Central Banking 101, said, in short, with QT “consumers have less wealth to spend” and this means that drops in financial markets and the tightening of “financial conditions impact the real economy,” negatively, albeit not as harshly as a rise in interest rates.
Unpacking further, with the Treasury set to increase issuance, thus boosting the government’s checking account, or Treasury General Account (TGA), “the level of reserves in the banking system declines, or the level of RRP could also decline,” Wang added.
This is as all of the above are liabilities to the Fed. Therefore, money comes out of the economy, via a fall in reserves, and this is put into the government’s checking account (TGA boost).
The linked reduction in bank deposits and reserves bolsters “repurchase agreement rates and borrowing benchmarks linked to them,” per Bloomberg. This, then, may play into “an additional tightening of overall financial conditions,” as mentioned, earlier.
Graphic: Via Physik Invest. Data compiled by @jkonopas623. Fed Balance Sheet data, here. Treasury General Account Data, here. Reverse Repo data, here. NL = BS – TGA – RRP.
Here’s a provision.
It’s the case that the Fed believes it needs a certain level of reserves for the proper functioning of the financial system (~$2 trillion). Wang explained that in 2019, banks dumped a lot of their reserves into repo to earn some extra return.
When QT was about to end, there was less money in their reserves which preceded a spike in rates and a blow-up among those who needed the money the most, as explained here.
“The Fed saw the system breaking at around 8% GDP and thinks that is where the limit is,” he added. “This suggests, going forward, the Fed is going to have to do something to top up the reserves in the banking system, and they have tools to do that.”
What’s the result, then?
These tools include capping the RRP, “forcing money out into the banking system,” as well as modifying the supplementary leverage ratio (SLR), making it “cheaper for banks to maintain a large balance sheet.”
Together, this, ultimately, may increase “the capacity of banks to make loans [and] create credit, so that is financial easing.”
As Wang said in another work best: These “easing effects may even overwhelm the tightening impact of a marginally longer QT.”
So, what can we expect?
In terms of timelines, Wang puts forth that economic data will likely prompt a mid-2023 cut in rates, which is in line with what the futures market is pricing.
Graphic: Retrieved from CME Group Inc (NASDAQ: CME).
Before then, traders are pricing nearly 225 to 250 basis points of rate increases. Based on where rates are at, now, some argue the market may still be too expensive.
Graphic: Retrieved from Bloomberg via Michael J. Kramer. “What is amazing is how expensive this market is relative to rates. The spread between the S&P 500 Earnings yield and the 10-Yr nominal rate is at multi-year lows.”
Positioning
We’ve talked about this before but what is expected, after Wednesday’s Fed update, is a move that is “structural,” as Kai Volatility’s Cem Karsan has put it before, and “a function of inevitable rebalancing of dealer inventory post-event.”
“The second move and final resolution, if you wait for it, is usually tied to the incremental effects on liquidity (QE/QT).”
Should participants’ fears with respect to the pace of tightening, for one, be assuaged, then it is likely that the protection demanded heading into the meeting, that’s bidding measures of implied volatility (IVOL), is supplied. This likely provides a boost.
From thereon, markets are more at the whims of macro-type positioning on rising rates and the withdrawal of liquidity.
Technical
As of 6:20 AM ET, Tuesday’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 prior-range and -value, suggesting a limited potential for immediate directional opportunity.
In the best case, the S&P 500 trades higher.
Any activity above the $3,909.25 MCPOC puts into play the $3,936.25 ONH. Initiative trade beyond the ONH could reach as high as the $3,964.75 HVNode and $4,001.00 VPOC, or higher.
In the worst case, the S&P 500 trades lower.
Any activity below the $3,909.25 MCPOC puts into play the $3,885.00 VPOC. Initiative trade beyond the VPOC could reach as low as the $3,857.25 and $3,826.25 HVNode, or lower.
Click here to load today’s key levels into the web-based TradingView charting platform. Note that all levels are derived using the 65-minute timeframe. New links are produced, daily.
Graphic: 65-minute profile chart of the Micro E-mini S&P 500 Futures.
Definitions
Volume Areas: A structurally sound market will build on areas of high volume (HVNodes). Should the market trend for long periods of time, it will lack sound structure, identified as low volume areas (LVNodes). LVNodes denote directional conviction and ought to offer support on any test.
If participants were to auction and find acceptance into areas of prior low volume (LVNodes), then future discovery ought to be volatile and quick as participants look to HVNodes for favorable entry or exit.
POCs: POCs are valuable as they denote 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.
MCPOCs: POCs are valuable as they denote areas where two-sided trade was most prevalent over numerous day sessions. Participants will respond to future tests of value as they offer favorable entry and exit.
About
After years of self-education, strategy development, mentorship, and trial-and-error, Renato Leonard Capelj began trading full-time and founded Physik Invest to detail his methods, research, and performance in the markets.
Capelj also develops insights around impactful options market dynamics at SpotGamma and is a Benzinga reporter.
In no way should the materials herein be construed as advice. Derivatives carry a substantial risk of loss. All content is for informational purposes only.
The daily brief is a free glimpse into the prevailing fundamental and technical drivers of U.S. equity market products. Join the 900+ that read this report daily, below!
Graphic updated 7:45 AM ET. Sentiment Neutral if expected /ES open is inside of the prior day’s range. /ES levels are derived from the profile graphic at the bottom of the following section. Levels may have changed since initially quoted; click here for the latest levels. SqueezeMetrics Dark Pool Index (DIX) and Gamma (GEX) calculations are 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. At the same time, the lower the GEX, the more (expected) volatility. Learn the implications of volatility, direction, and moneyness. Breadth reflects a reading of the prior day’s NYSE Advance/Decline indicator. VIX reflects a current reading of the CBOE Volatility Index (INDEX: VIX) from 0-100.
Administrative
Apologies – yesterday the above graphic was not properly updated. The sentiment reading was incorrect, as were a couple of other figures. Separately, a lighter note, today, followed by more in-depth stuff currently being worked on in the coming sessions. Thanks!
Fundamental
First – going to refer everyone to yesterday’s letter, a conversation between Joseph Wang and Andy Constan, as well as some updates Cem Karsan of Kai Volatility made. That is, in part, a primer for what we will be talking more about, soon.
Next – we have futures markets pricing rate a peak in the overnight rate at ~4.6% in February of 2023. From thereon, rate cuts are implied.
Graphic: Via Charles Schwab Corporation’s (NYSE: SCHW) TD Ameritrade thinkorswim. Observed is the Eurodollar, the interest offered on U.S. dollar-denominated deposits held at banks outside of the U.S. (i.e., participants’ outlook on interest rates).
It’s becoming the consensus that “[f]or hikes to reduce inflation, they need to hurt growth,” Jean Boivin and Alex Brazier of BlackRock Inc (NYSE: BLK) explained.
“There is no way around this,” they add. “We estimate it would require a deep recession in the U.S., with around as much as 2% hit to growth in the U.S., and 3 million more unemployed, and an even deeper recession in Europe.”
It’s the impact of rising rates and quantitative tightening (the latter which will compound the impacts of the former) that are part of the toolkit used to cool the sticky inflation.
Graphic: Via Physik Invest. Data compiled by @jkonopas623. Fed Balance Sheet data, here. Treasury General Account Data, here. Reverse Repo data, here. NL = BS – TGA – RRP.
Ray Dalio, of Bridgewater Associates LP, said that rates rising “toward the higher end of the 4.5% to 6% range … will bring private sector credit growth down, which will bring private sector spending and, hence, the economy down with it.”
Accordingly, equity prices could plunge upwards of 20%, as a result.
Graphic: Retrieved from Bloomberg via Michael J. Kramer. “What is amazing is how expensive this market is relative to rates. The spread between the S&P 500 Earnings yield and the 10-Yr nominal rate is at multi-year lows.”
Further, per Bloomberg’s John Authers, it’s the case that “[a]ll major global synchronized crises ended with moderate inflation and low growth; that hasn’t been reached yet.” Separately, a peak in inflation “doesn’t come close to guaranteeing equity gains.”
The pivot will come when there’s a “sustainable path to 2% (not 3 or 4%) inflation” and a “fed funds that is greater than CPI for a few quarters,” explained Alfonso Peccatiello of The Macro Compass.
“The timing mostly depends [on] the MoM CPI ahead,” he added, pointing to a graphic that suggests “there is no ‘pivot’ earlier than mid-2023, and it could well be later. Looking at the SOFR curve, that’s also what’s roughly priced in.”
Graphic: Retrieved from Bespoke Investment Group via Alfonso Peccatiello.
Positioning
Ahead of a multi-derivative expiry, markets are trading sideways to lower. Demands to protect equity downside (with puts), compounded macro-type selling earlier this week.
Now, with traders well hedged, Kai Volatility’s Cem Karsan put forth that there is a “race to monetize,” which is lending to “relatively flat” trade and “lack of follow-through.”
Graphic: Retrieved from Pat Hennessy. “Every large down move in SPX this year (quantified by <= -2 Zscore) has been followed by a relatively flat day/lack of follow through. Any ideas as to why this is?”
From hereon, as we said, a lot of the exposure demanded is short-dated. Should that exposure not be rolled forward in time, and allowed to expire, “SPX/ES dealers [who] are well hedged,” will unwind their hedges which may drive bullishness “through OpEx,” added Karsan.
Notwithstanding, this “has [the] potential to drive a tail post” OpEx. In [the] tech/meme market melt-up of 2020-2021, positioning was [the] exact opposite.”
Technical
As of 7:45 AM ET, Thursday’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 balanced overnight inventory, inside of prior-range and -value, suggesting a limited potential for immediate directional opportunity.
In the best case, the S&P 500 trades higher.
Any activity above the $3,965.75 HVNode puts into play the $4,001.00 VPOC. Initiative trade beyond the VPOC could reach as high as the $4,018.75 and $4,069.25 HVNodes, or higher.
In the worst case, the S&P 500 trades lower.
Any activity below the $3,965.75 HVNode puts into play the $3,925.00 VPOC. Initiative trade beyond the VPOC could reach as low as the $3,867.75 LVNode and $3,829.75 HVNode, or lower.
Click here to load today’s key levels into the web-based TradingView charting platform. Note that all levels are derived using the 65-minute timeframe. New links are produced, daily.
Graphic: 65-minute profile chart of the Micro E-mini S&P 500 Futures.
Definitions
Volume Areas: A structurally sound market will build on areas of high volume (HVNodes). Should the market trend for long periods of time, it will lack sound structure, identified as low volume areas (LVNodes). LVNodes denote directional conviction and ought to offer support on any test.
If participants were to auction and find acceptance into areas of prior low volume (LVNodes), then future discovery ought to be volatile and quick as participants look to HVNodes for favorable entry or exit.
POCs: POCs are valuable as they denote 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.
MCPOCs: POCs are valuable as they denote areas where two-sided trade was most prevalent over numerous day sessions. Participants will respond to future tests of value as they offer favorable entry and exit.
About
After years of self-education, strategy development, mentorship, and trial-and-error, Renato Leonard Capelj began trading full-time and founded Physik Invest to detail his methods, research, and performance in the markets.
Capelj also develops insights around impactful options market dynamics at SpotGamma and is a Benzinga reporter.
In no way should the materials herein be construed as advice. Derivatives carry a substantial risk of loss. All content is for informational purposes only.
The daily brief is a free glimpse into the prevailing fundamental and technical drivers of U.S. equity market products. Join the 900+ that read this report daily, below!
Graphic updated 7:30 AM ET. Sentiment Risk-On if expected /ES open is above the prior day’s range. /ES levels are derived from the profile graphic at the bottom of the following section. Levels may have changed since initially quoted; click here for the latest levels. SqueezeMetrics Dark Pool Index (DIX) and Gamma (GEX) calculations are 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. At the same time, the lower the GEX, the more (expected) volatility. Learn the implications of volatility, direction, and moneyness. Breadth reflects a reading of the prior day’s NYSE Advance/Decline indicator. VIX reflects a current reading of the CBOE Volatility Index (INDEX: VIX) from 0-100.
Administrative
Hey team, before we get started, let’s address the mismatch some observed last week with this letter’s levels and S&P quotes, versus what they saw at home.
It is basically the case that our charting platform rolled over to the December S&P 500 Index futures contract on September 9, 2022. This was about 1-week ahead of the expiry of the old contract on September 16, 2022.
Going forward, unless otherwise noted, 6-days prior to the expiration of a quoted contract, the levels and prices in this letter may reflect that of the new, father-dated contract.
As an aside, based on CME Group Inc’s (NASDAQ: CME) Equity Quarterly Roll Analyzer Tool, the pace of the E-mini S&P 500 (FUTURE: /ES) roll is far off of what it has historically been at this stage of the roll period.
This roll, too, caught your letter’s writer by surprise. Sorry!
Graphic: Retrieved from CME Group Inc (NASDAQ: CME).
Moving on, coverage this week may be sporadic due to some uncertain travel commitments. It is seeming very likely that there may not be a letter published on September 13 and 14, 2022.
Fundamental
Let’s get into it.
At its core, there’s a lot of stuff happening on the monetary and fiscal front. Guiding some of this action, on those fronts, are (geo)political happenings, the rising tide of populism, and beyond.
On the political fronts, Ukrainians “broke through weakened Russian lines, seizing the strategic railway hub of Kupiansk and the key staging area of Izyum,” Noah Smith explained in his letter.
A timelapse of the progress over the first 4 days of Ukraine's Kharkiv offensive. pic.twitter.com/qicoHEEKPD
Recent happenings illustrate “some important principles about the broader conflict unfolding across our world between liberalism and illiberalism,” as well as what a “successful defense of Ukraine” would do to hurt “the dawn of a new age of imperial expansionism,” something we’ve talked a lot about in past letters, alongside the growing deglobalization pulse.
The go-to on the implications of these conflicts, as well as the “burgeoning monetary order,” dubbed Bretton Woods III, has been Credit Suisse Group AG’s (NYSE: CS) Zoltan Pozsar who thinks the dollar “is entering a new and rockier phase” and what “matters more than access to dollars is access to commodities and actual things.”
From hereon, Pozsar thinks “commodity prices can go much higher, … and a dollar can get devalued in terms of commodities.”
In the face of geopolitical and supply chokepoints (further bolstered by such things as railroad strikes), as well as the fragmentation of “the physical world,” it’s no “longer appropriate to think about the world as a unified whole,” Pozsar explains.
Potentially at hand is a “self-reinforcing ‘dollar doom loop,’” Jon Turek of JST Advisors adds in the earlier quoted article. That’s big since, as we once explained, the dollar is the dominant currency for carry due to the easy monetary policies that removed the risk of a strong dollar.
“Non-US entities make dollar-based loans and transactions … because it’s considered more trustworthy than native fiat,” Bankless explained. “When there’s a disruption in global cash flows, there’s effectively a short squeeze on the dollar.”
Therefore, while efforts to stem inflation bolstered by supply chokepoints continue, “the stronger the dollar gets in comparison, the less tenable it becomes as a global reserve.”
That is pressure on the long-term trajectory of the dollar.
Ultimately, through the earlier mentioned developments, “breaking the dollar’s dominance could arguably help some countries avoid a tightening of financial conditions,” Bloomberg explains.
Accordingly, with “the dollar’s peak [] already in the rearview mirror,” concerns are amped in regard to how this impacts U.S. markets. It’s the case that U.S. market liquidity, as well as the dollar’s strong role as a reserve, put the S&P 500 at the center of the global carry regime.
Thus, an unwinding of carry may compound a market drop affecting nearly all risk assets, even housing, and prompting recession, something we shall unpack further in coming letters.
Graphic: Retrieved from The Market Ear. Via Morgan Stanley (NYSE: MS). “MS Research thinks the lows for this bear market will likely arrive in the fourth quarter with 3,400 the minimum downside and 3,000 the low if a recession arrives.”
To round out this section, a bull case is likely characterized by less outsized interest rate hikes here, in the US, with quantitative tightening (QT) ramping “to its maximal caps” with no increase in “vol or yields,” said JPMorgan Chase & Co (NYSE: JPM) market intelligence.
However, if inflation remains hot – 8% and 9% – and supply disruptions remain sticky, the Fed may continue on its path of higher for longer. That means an “outsized rate hike cadence in Nov/Dec, bringing Fed Funds above 4.0% … and QT put[ting] upward pressure on yields.”
Graphic: Retrieved from Callum Thomas. Via Bank of America Corporation (NYSE: BAC). Market bottoms often appear when the Federal Reserve (Fed) begins cutting interest rates.
Positioning
Demand for protection and re-entry into shorts was the context for selling that culminated in an S&P 500 (INDEX: SPX) low at $3,900.00 last week.
It’s at this level, “where the demand for put options was concentrated,” analysis providers like SpotGamma saw “support” and, “absent an exogenous catalyst,” S&P 500 stability.
From thereon, into the end of the week, SpotGamma adds that “positive delta hedging flows” bolstered a “market move away from the $3,900.00 support.” Tools like SpotGamma’s HIRO showed volatility selling and this validated a SpotGamma call for “follow-on bullishness.”
Graphic: Retrieved from SpotGamma. Updated September 7, 2022.
Nonetheless, in light of the above fundamental and positioning contexts, after derivatives expiries this month, the stage is likely set for larger two-way ranges.
Technical
As of 7:20 AM ET, Monday’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 balanced overnight inventory, outside of prior-range and -value, suggesting a potential for immediate directional opportunity.
In the best case, the S&P 500 trades higher.
Any activity above the $4,107.00 POC puts into play the $4,136.75 MCPOC. Initiative trade beyond the MCPOC could reach as high as the $4,189.25 LVNode and $4,231.00 VPOC, or higher.
In the worst case, the S&P 500 trades lower.
Any activity below the $4,107.00 POC puts into play the $4,071.00 VPOC. Initiative trade beyond the VPOC could reach as low as the $4,018.75 HVNode and $3,991.00 VPOC, or lower.
Click here to load today’s key levels into the web-based TradingView charting platform. Note that all levels are derived using the 65-minute timeframe. New links are produced, daily.
Graphic: 65-minute profile chart of the Micro E-mini S&P 500 Futures.
Definitions
Volume Areas: A structurally sound market will build on areas of high volume (HVNodes). Should the market trend for long periods of time, it will lack sound structure, identified as low volume areas (LVNodes). LVNodes denote directional conviction and ought to offer support on any test.
If participants were to auction and find acceptance into areas of prior low volume (LVNodes), then future discovery ought to be volatile and quick as participants look to HVNodes for favorable entry or exit.
POCs: POCs are valuable as they denote 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.
MCPOCs: POCs are valuable as they denote areas where two-sided trade was most prevalent over numerous day sessions. Participants will respond to future tests of value as they offer favorable entry and exit.
About
After years of self-education, strategy development, mentorship, and trial-and-error, Renato Leonard Capelj began trading full-time and founded Physik Invest to detail his methods, research, and performance in the markets.
Capelj also develops insights around impactful options market dynamics at SpotGamma and is a Benzinga reporter.
In no way should the materials herein be construed as advice. Derivatives carry a substantial risk of loss. All content is for informational purposes only.
The daily brief is a free glimpse into the prevailing fundamental and technical drivers of U.S. equity market products. Join the 300+ that read this report daily, below!
Graphic updated 6:30 AM ET. Sentiment Neutral if expected /ES open is inside of the prior day’s range. /ES levels are derived from the profile graphic at the bottom of the following section. Levels may have changed since initially quoted; click here for the latest levels. SqueezeMetrics Dark Pool Index (DIX) and Gamma (GEX) calculations are 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. At the same time, the lower the GEX, the more (expected) volatility. Learn the implications of volatility, direction, and moneyness. Breadth reflects a reading of the prior day’s NYSE Advance/Decline indicator. VIX reflects a current reading of the CBOE Volatility Index (INDEX: VIX) from 0-100.
Fundamental
A light few letters after what it seems were like weeks of heavy content to discuss.
Further, prices at the pump are falling on an “unseasonal” drop in consumption, all the while the biggest bulls have tempered their outlooks on the market citing inflation and the implications of geopolitical tensions.
Graphic: National average gas prices posted by AAA.
An overseas slowdown affecting China likely solicits stimulus. Reported was China’s Ministry of Finance considering the sale of special bonds with proceeds used to pay for infrastructure and boost a slowed economy increasingly in the clear from Covid.
Graphic: Shared by Alfonso Peccatiello. “the pace of real-economy money printing (not bank reserves…) going on in the 5 largest economies in the world. It’s a good leading indicator for economic growth & the performance of several asset classes. It just printed below the GFC lows.”
Moreover, as talked about yesterday, inflation may have peaked. Inventories are pointing to a looming supply gut.
Accordingly, the Federal Reserve (Fed), just as it was slow to end stimulus late last year and early this year, maybe slow in moderating its efforts to de-stimulate.
Graphic: Retrieved from Axios. “The glut of cash being parked at the Fed is reflective of policies that have already run their course, especially with quantitative tightening underway.” But, “it’s a representation of how much too far the Fed went in easing,” says Thomas Simon, an economist at Jefferies Financial Group (NYSE: JEF).
Minutes from the last Federal Open Market Committee (FOMC) meeting revealed a rate hike up to 75 basis points in July would be appropriate, per Moody’s Corporation (NYSE: MCO).
A strong jobs report would likely prompt the Fed “to raise rates even more aggressively as they pursue their goal to raise the unemployment rate,” explains Bryce Doty of Sit Fixed Income.
“As [the Fed] seek[s] to destroy demand, they are also destroying supply. As a result, inflation will persist longer and the economy will be even worse.”
This is pursuant to calls by the Credit Suisse Group AG’s (NYSE: CS) Zoltan Pozsar who put forth, earlier this year, that the “Fed is pursuing demand destruction through negative wealth effects,” as the “central banks can only deal with nominal [and] not real chokepoints.”
Graphic: Via JPMorgan Chase & Co (NYSE: JPM). Taken from The Market Ear. “A stronger dollar, lower equity prices, and higher mortgage rates will weigh on demand growth [and] Over time weaker output demand should lead to weaker labor demand Don’t fight the Fed as this is what Fed wants (slower growth).”
Ultimately, the “risk of recession, whether it is real or merely implied by an inversion of the yield curve, won’t deter the Fed from hiking rates higher faster or from injecting more volatility to build up negative wealth effects.”
“Rallies could beget more forceful pushback from the Fed – the new game.”
Data shows net gamma exposure increasing which may increasingly feed into smaller ranges and a positive drift amid shorter-dated volatility sales and a pick up in call demand, particularly in some of the larger index weights.
Graphic: Via SpotGamma’s Hedging Impact of Real-Time Options (HIRO) indicator for Alphabet Inc (NASDAQ: GOOG) (NASDAQ: GOOGL). Rising orange and blue lines point to call buying and put selling, both of which have bullish implications.
The creep in volatility realized (RVOL), versus that which is implied (IVOL), coupled with “a flattening in the downside fixed strike skew, while the upside wings [are] more smiley,” per JPMorgan Chase & Co (NYSE: JPM), makes it so we can put on more complex structures.
Graphic: Via S&P Global Inc (NYSE: SPGI). As explained by SpotGamma, “30-day realized SPX volatility is now trading above the VIX, something that generally shows after major selloffs wherein IV “premium” needs to reset to calmer/higher equity markets.”
For instance, ratio spreads continue to work well for low- or no-cost exposure to the upside.
Likewise, if one thought volatility, though at a high starting point particularly at the money (ATM), was due for a repricing, they would look for exposure to the downside via something such as an inverse ratio (or backspread).
This is as the ATMs, unlike those further out of the money (OTM), are less convex in vega.
As of 6:30 AM ET, Friday’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 negatively skewed overnight inventory, inside of prior-range and -value, suggesting a limited potential for immediate directional opportunity.
In the best case, the S&P 500 trades higher.
Any activity above the $3,909.25 MCPOC puts into play the $3,943.25 HVNode. Initiative trade beyond the HVNode could reach as high as the $3,982.75 LVNode and $4,016.25 HVNode, or higher.
In the worst case, the S&P 500 trades lower.
Any activity below the $3,909.25 MCPOC puts into play the $3,867.25 LVNode. Initiative trade beyond the LVNode could reach as low as the $3,831.00 VPOC and $3,800.25 LVNode, or lower.
Click here to load today’s key levels into the web-based TradingView charting platform. Note that all levels are derived using the 65-minute timeframe. New links are produced, daily.
Graphic: 65-minute profile chart of the Micro E-mini S&P 500 Futures.
Considerations: Responsiveness near key-technical areas (that are discernable visually on a chart), suggests technically-driven traders with short time horizons are very active.
Such traders often lack the wherewithal to defend retests and, additionally, the type of trade may be indicative of the other time frame participants waiting for more information to initiate trades.
Definitions
Volume Areas: A structurally sound market will build on areas of high volume (HVNodes). Should the market trend for long periods of time, it will lack sound structure, identified as low volume areas (LVNodes). LVNodes denote directional conviction and ought to offer support on any test.
If participants were to auction and find acceptance into areas of prior low volume (LVNodes), then future discovery ought to be volatile and quick as participants look to HVNodes for favorable entry or exit.
POCs: POCs are valuable as they denote 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.
MCPOCs: POCs are valuable as they denote areas where two-sided trade was most prevalent over numerous day sessions. 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
After years of self-education, strategy development, mentorship, and trial-and-error, Renato Leonard Capelj began trading full-time and founded Physik Invest to detail his methods, research, and performance in the markets.
Capelj also develops insights around impactful options market dynamics at SpotGamma and is a Benzinga reporter.
In no way should the materials herein be construed as advice. Derivatives carry a substantial risk of loss. All content is for informational purposes only.
