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On Friday we reported that while every hedge fund bro and TikTok-ing Millennial has been glued to the meltup in heavily-shorted stocks like GME (and the meltdown in the hedge funds who were heavily-short), there has been significant impacts under the covers of the rest of the financial markets that few have (for now) noticed. One place where the unintended consequences of the short squeeze hit hard was FANG stocks in particular, and the most popular and liquid names held by hedgies (i.e., the Goldman Hedge Fund VIP basket)  which have seen liquidations to meet margin calls, as well as due to VaR shocked-induced gross leverage drawdowns. In other words the highest the most shorted names rose, the more the selling in the “most popular” longs as shown below.

But it’s not just pair trades that have gotten hammered – and incidentally, according to several desks, GME was the most popular short pair-trade offset to the ubiquitous AMZN long, which is why we asked earlier if the WSB army isn’t coming after Jeff Bezos next…

GME is the most frequent participant in AMZN pair trades: Goldman prime

Is the WSB train about to come for Bezos

— zerohedge (@zerohedge) January 31, 2021

… as we noted on Friday, the outsized influence from the booming video-game retailer has altered some ETF compositions and is forcing what Citi analysts called “ad-hoc rebalances and strategy adjustments.” In one of the most stunning developments, roughly $700 million in assets was pulled from the SPDR S&P Retail ETF (XRT) this week…

… with a record $506 million pulled on Wednesday alone, draining total assets to just $164 million.

The outflows come after GameStop’s surge swelled its weighting in XRT to an insane 20%, which is unprecedented given that the fund tracks an equal-weighted index, the video game retailer’s weighting should be closer to 1% according to Bloomberg’s James Seyffart.

While we didn’t know what specifically caused this record plunge in XRT assets, we speculated that “one possibility is that because XRT redemptions are delivered in-kind – meaning that its shares are exchanged for the underlying stocks in the fund – investors are ditching the ETF to get their hands on hard-to-borrow GameStop shares.“

As it turns out that’s precisely what happened. As Bloomberg’s Seyffart and Balchunas explain, “the $506 million outflow on Jan. 27 cut XRT’s assets to less than $240 million and offered further evidence of the stability of the ETF structure. Despite the plunge in assets, XRT’s price was unaffected, closing at a 6-bp discount…. The Jan. 27 outflow amounted to 5.55 million XRT shares, lowering the total to 2.6 million.”

Yes a huge move that barely impacted the price: that’s good – it means that the market is still liquid enough for historic asset reallocations in ETFs. But that’s not the punchline:

And the punchline: “The in-kind redemption was likely an attempt by investors to get their hands on scarce GameStop shares. Based on XRT’s weightings, those who took delivery of the underlying holdings received about 292,000 GameStop shares, alongside 94 other stocks.”

Unprecedented? Well, yes. Because as Bloomberg itself concludes “by allowing investors to redeem GameStop and other shares from its own holdings, XRT effectively acted as a dealer, akin to the role we see many liquid fixed-income ETFs playing in the bond market.“

Why is this important? Because as a look at GME borrow rates (courtesy of S3 Blacklight) shows, Jan 27 is precisely the day when the carry cost to hold GME shorts peaked (and at some dealers it soared as high as a suicidal 200% according to S3 Partners).

In the Thursday overnight session, the price of GME also peaked and has been drifting lower since.

Here is the bottom line: one (or more funds) perhaps facing a terminal margin call, was so desperate to close out their GME short in a market where the cost to borrow the stock had exploded as high as 200% (a death sentence for any hedge fund who plans to keep the GME short on for a long period of time), that they stripped XRT (which as Bloomberg notes “acted as a dealer”) of 292K shares of GSE to quickly plug the shortfall (no pun intended) and to emerge alive. As a result of this furious scramble, not only did the cost to borrow GME slide, but so did the stock price.

So what does that mean: is the panic squeeze over now that the cost to borrow GME has dropped? Well… maybe not and here’s why: with XRT effectively raided out of a paltry 300K shares, there are no more hiding places for GME stock to be raided. In other words, any shorts left are on their own. Meanwhile as S3 Partners’ Ihor Dusaniwsky wrote on Friday, some 113.3% of the GME float is still short (synthetically, including rehypothecated shorts). What’s worse, while the cost to borrow GME stock has dropped, it still remains around 30% which means that no hedge fund can remain short the stock indefinitely without suffering massive losses and yet still more than all of the float is short.

Whether this means the GME squeeze will resume tomorrow, or whether with the “help” of Robinhood’s effective shutdown and Citadel’s friends in high places, the short raid will finally end on Monday, we leave it up to readers to decide.

Via Greg Hunter’s USAWatchdog.com,

Finance and economic expert Alasdair Macleod says watch interest rates and the U.S. dollar set the direction for the markets in 2021. 

Macleod explains, “You can see how, through interest rates, the future of the dollar is actually tied to the future of financial asset markets...”

”  If you get a pop in the bubble, and there is no doubt equity prices are wildly overvalued compared to the economic outlook…

Quite honestly, there is no alternative but for markets to correct very, very heavily.  When that happens, you are going to have portfolio outflows out of the dollar… The effect of that will be to take the dollar down along with financial asset prices…

We can get the collapse of the dollar happening very, very rapidly.”

Macleod says the money printing we are seeing now globally is on a scale and pace never seen in world history, and at the center of it all, is the U.S. and the new administration in Washington, D.C.  Macleod says,

“From last March until today, we can see a total of $8 trillion worth of QE (money printing) required to pay for all the programs, and that includes Biden’s $1.9 trillion, which I know has not been authorized—yet.  The figures are enormous.  There is absolutely no way that the dollar can hold its value with that level of money printing.  That’s just to deal with Covid.  Biden also wants to finance green spending . . . . How much more spending on top of that goodness only knows.  The thing is a mess, and it’s not just America.  When I look at Europe . . . they are incompetent . . . and when you get an incompetent government like that, forget it.  The Eurozone banks are on the verge of bankruptcy, I mean beyond insolvency.  They are on the verge of bankruptcy.  How do you handle a situation like that when you’ve got an incompetent bunch of bureaucrats at the top?  This is going to happen, and I am surprised it hasn’t happened yet.”

Macleod warns to forget about the phony inflation figures pushed by governments.  Real inflation will reset the price of everything.  Macleod says,

“The reality of the situation is the underlying rate of price inflation which means interest rates should be closer to10%.  America is now accelerating the money printing at a phenomenal rate,  which means everybody believing the inflation rate is 1.4% and governments can suppress interest rates forever . . . and governments can reset everything.  The answer is no.  There is a real crisis in the winds here. . . . The Biden Administration is likely to undermine the dollar more rapidly than if Trump got re-elected.”

Macleod says at some point, “You will get a stampede out of the dollar . . . . What the Fed has done is they have tied the future of financial assets with the currency.  When one goes, they both go.”

Macleod also says the best protection for the common man for the financial turmoil the world is facing is to “have some sound money like physical gold and silver.”

Join Greg Hunter of USAWatchdog.com as he goes One-on-One with Alasdair Macleod, Head of Research for GoldMoney.com.

To Donate to USAWatchdog.com Click Here. Alasdair Macleod posts articles regularly on GoldMoney.com under the “research” section of the site.  There is also much free information as well on the site. This segment is sponsored by Discount Gold and Silver Trading.

Attorneys who had planned on representing President Trump in his upcoming impeachment trial have reportedly quit the case over Trump’s insistence that they present election fraud claims as part of their defense, rather than their recommended strategy of arguing the constitutionality of holding a trial for a former president.

The team, led by South Carolina Lawyer Butch Bowers (recommended by Sen. Lindsay Graham (R-SC)) and which includes South Carolina lawyer Deborah Barbier, left in what was described by Politico as a “mutual decision.” A third attorney, Josh Howard, was reported by CNN as also leaving the team.

New attorneys are expected to be announced shortly.

The decision by Bowers, Barbier, and Howard to not join the team raised immediate questions, both about what compelled them to part ways and who actually will play the role of lawyer to Trump when the impeachment trial starts in early February.

Trump has had difficulty finding legal help for his second impeachment, with some of the lawyers who worked on his first trial saying they wouldn’t do the same this go around.

Bowers’ hiring was first announced by Trump ally and South Carolina Sen. Lindsey Graham. A longtime Republican attorney, Bowers represented former South Carolina Govs. Mark Sanford and Nikki Haley, and had experience in election law. –Politico

Trump’s first legal filing in the upcoming impeachment is due on Tuesday.

In a statement, Trump spokesperson Jason Miller largely ignored the legal rumblings – telling ABC News “We have done much work, but have not made a final decision on our legal team, which will be made shortly,” while slamming the impeachment itself as a sham.

“The Democrats’ efforts to impeach a president who has already left office is totally unconstitutional and so bad for our country,” said Miller, adding “In fact, 45 Senators have already voted that it is unconstitutional. We have done much work, but have not made a final decision on our legal team, which will be made shortly.”

Trump was impeached by House Democrats on Jan. 13 on a single article for “incitement of insurrection” after a small group of Trump supporters gained access to the US Capitol, where they wreaked havoc throughout Conressional offices and on chamber floors, before being allowed to casually walk out of the complex.

Authored by Lance Roberts via RealInvestmentAdvice.com,

Retail Investors Stage A Riot On WallStreet

For years, Wall Street has taken advantage of retail investors.

In 2000, they dumped companies with no earnings or revenue on unsuspecting individuals, eventually costing them their retirements. In 2008, it was outright mortgage fraud. From 2009 to the present, Wall Street has used algorithms, high-frequency trading, and user data purchases to front-run “the little guy” by scalping them for profits.

Interestingly, this past week, retail investors hit back. Just as individuals used social media platforms to organize protests and riots across the country, traders used websites like “Reddit” to organize a successful short-squeeze on Wall Street hedge funds. That short-squeeze, which forces hedge funds who were short stocks to cover the positions, has sent a handful of stocks to the moon. Notably, Gamestop, a retail store that is on its way to bankruptcy, has been the movement’s poster child.

If you happened to be visiting Mars over the last few days, here is what I am talking about.

That chart is what a “short-squeeze” looks like when those short a stock have to “buy to cover” at the prevailing market price. It hasn’t been pretty, and the “Wall Street Bets” Reddit group took credit earlier this week for forcing Melvin Capital, a hedge fund short Gamestop, to get a $2.7 billion bailout from its hedgefund friends.

From that moment, it didn’t take long for Wall Street to show its true colors by locking retail investors out of being able to buy Gamestop. Robinhood, Schwab, WeBull, and others all restricted trading in the stock, which resulted in immediate class action lawsuits.

The Margin Problem

While Robinhood, and other brokers, took a lot of heat for restricting trading in shares of the most heavily shorted names, there was a reason – collateral requirements.

Without getting into all of the minutiae of capital requirements and margin accounts, the simple fact is that the NSCC is required, by SEC rules tracing back to Dodd-Frank, to make sure there is always cash to settle.

Depending on the net of buys and sells, the brokerage (like Robinhood) is on the hook to pay or receive the trading’s net cash. That is simply credit risk. The NSCC takes on that credit risk. To mitigate the risk of a brokerage failure, they demand firms post a deposit of 10% of the collateral.

Here is where the problem comes in. When firms are already heavily on margin (currently at a record level of negative cash balances), sharp changes in the underlying collateral value can lead to immediate demands for more deposits from the brokers.

On Thursday, Robinhood had to raise nearly $1 billion in capital to secure the ability to cover collateral requirements. We also saw margin requirements being adjusted by the DTCC.

Of course, the risk to the markets is that with brokerage firms already running too lean, if a firm like Robinhood failed, the ripple effect through the financial industry would likely rival that seen during the Lehman bankruptcy in 2008.

Such are likely reasons the markets sold off this past week.

Strange Bedfellows

As I stated at the beginning, it is about time Wall Street got a little bit of what they have been dishing out on Americans for years. It won’t take long for Wall Street to “circle their wagons” and protect themselves, but maybe this is just the warning shot they needed to make some changes. However, I highly doubt it.

It is interesting, though, that Robinhood’s actions, which may just put them out of business, have also united an unexpected group of individuals. Who would have ever thought that Ted Cruz would agree on anything with A. O. Cortez?

Even Mark Cuban, who benefitted greatly from Wall Street making him a billionaire, weighed in.

The mania is likely to get far worse before it ends. Such is particularly true if Citadel Securities, the hedge fund that pays Robinhood for user data to front-run trades, reloaded their short positions before making Robinhood shutter access.

Nonetheless, the “Wall Street Bets” clan are undeterred at this moment and are doubling down on their “bets.”

At least for now.

How Does This All End

The real question is what eventually happens. In Gamestop’s case, the company is effectively a “dead man” walking retailer. So, the only reason anyone is buying the stock is simply due to the short-squeeze conditions that currently exist. As of this writing, the percentage of shares “short” is 122%. (That isn’t a typo.)

The problem comes when the “Wall Street Bets” traders eventually do want to sell. Those traders are “paper rich,” however, to convert their shares back into cash, they have to sell. The question will be WHO will they sell to?

Such is where market dynamics come into play. As stated in “No Cash On The Sidelines:”

“Every transaction in the market requires both a buyer and a seller, with the only differentiating factor being at what PRICE the transaction occurs.”

Think about a crowded theatre. At the moment, everyone is going into the theatre (buying), and no one is selling. However, when they begin to try and sell their positions, no one will be there to buy from them.

Such is the equivalent of yelling “fire.” The smart ones will get out early. The rest will find themselves scrambling towards a very narrow exit. Once the price starts falling, the sellers will swamp the buyers driving the price lower. In Gamestop’s case, given the company’s value is around $10, where it was trading before the mania, the decline will be both brutal and fast.

While Wall Street is the villain, this is one of those stories where the villain gets away with the crime in the end.

Markets Take A Hit

Last week, we discussed that our “money flow” signals were close to triggering, suggesting either a short-term correction of 3.-5% or an extended consolidation. (We publish a daily 3-minute video click here to subscribe)

Let me repeat that point from last week:

“Important Note: A correction can take on one of two forms. The market either declines in price to alleviate the overbought condition, or it can consolidate sideways.” 

Such remains the case currently, as on Wednesday, the market declined by almost 3% in one day. That swift sell-off did trigger our money flow “sell signal,” as the volatility index spiked higher.

While the market did bounce on Thursday, it was a “suckers rally.” That bounce led to a retest of the 50-dma on Friday. Money flows have continued to weaken, suggesting there remains underlying selling pressure in the market currently.

While I fully expect a reflexive rally next week, that will likely be an opportunity to reduce risk rather than chasing markets. Such will be the case until we see money flows start to turn positive again, suggesting some underlying buying pressure.

For now, we are maintaining our higher level of cash. After selling last Friday, we have the luxury to be patient and look for opportunities to add to our core equity holdings at cheaper prices.

Greed Breaks Things

My colleague Doug Kass penned an excellent piece on Thursday discussing market conditions:

“‘If there is one common theme to the vast range of the world’s financial crises, it is that excessive debt accumulation, whether by the government, banks, corporations, or consumers, often poses greater systemic risks than it seems during a boom.’ – Carmen Reinhart 

A grotesque level of speculation has taken us to where we are now. With a good perspective on history, we can have a better understanding of the past and present — and thus a clear vision of the future. 

Like previous speculative cycles, this is about greed and trying to make money. Attempts to make trading seem like ideological notions and high minded intentions are fanciful to me. Such makes my point that mishappened levels of speculation usually occur in the later stage of a Bull Market and, more often than not, presage a Bear Market. 

Speculation, as noted yesterday, is the outgrowth of undisciplined monetary policy.”

He is correct. The rampant speculation in the market is prolific, as shown in the charts below.

As Doug notes, speculation is the direct result of the “Moral Hazard” created by the Fed’s ongoing monetary interventions.

After a decade of injecting liquidity into the financial markets, it is no surprise that investors “believe” they have an “insurance” policy against loss. As noted in the linked article, such is the very definition of moral hazard. Every time the market “wiggles,” the Fed has expanded their monetary interventions.

However, at some point, the Fed may become trapped by the own policies. If the direct stimulus does cause an inflationary surge, the Fed may get forced to cut QE and increase rates.

The last time they tried that was in 2018.

It didn’t go well.

While hopes of a bipartisan COVID-19 economic stimulus plan appeared to fade on Saturday, the situation appeared more hopeful on Sunday, as Bloomberg reports that “ten Republican senators have proposed an alternative plan” which would cost approximately $600 billion, and which they claim has bipartisan support.

Among the signatories are Sens. Susan Collins (ME), Mitt Romney (UT) and Lisa Murkowski (AK).

“In the spirit of bipartisanship and unity, we have developed a Covid-19 relief framework that builds on prior Covid assistance laws, all of which passed with bipartisan support,” the Senators wrote in a Sunday letter addressed to President Biden.

“Our proposal reflects many of your stated priorities, and with your support, we believe that this plan could be approved quickly by Congress with bipartisan support.  We request the opportunity to meet with you to discuss our proposal in greater detail and how we can work together to meet the needs of the American people during this persistent pandemic.”

The GOP proposal includes $160 billion to expand vaccine development and distribution, testing and tracing, treatment and supplies, and the production and development of personal protective equipment (PPE). Also included is $4 billion for behavioral health and substance abuse services, which mirrors Biden’s plan. 

What’s more, the GOP Senators note that “billions of dollars remain unspent from the previous COVID relief packages” which can be reallocated to the new plan.

And according to Jared Bernstein, a member of Biden’s Council of Economic Advisers while appearing on “Fox News Sunday,” the Biden White House is “absolutely willing to negotiate.”

“Glad to hear from this letter that they’re on board, but we need to learn a lot more about it. Right now, we are in a position where delay and inaction are the enemy of moving forward,” he added.

On Friday, President Biden said “I support passing Covid relief with support from Republicans if we can get it. But the Covid relief has to pass — there’s no ifs, ands or buts,” before warning that an entire generation of children face weaker lifetime earnings thanks to the pandemic.

One of the ten Republicans who signed the letter, Bill Cassidy of Louisiana, said that the proposal comes to “about $600 billion,” seemingly confirming the $500 – $600 billion range pegged by one GOP aide – which notably pales in comparison to the $1.9 trillion stimulus Biden seeks.

According to Cassidy, stimulus payments would be as high as $1,000 and would be conducted in a more targeted fashion to weed out those who don’t actually need them. Biden, meanwhile, has proposed $1,400 checks – which would “top up” the $600 payments made in December.

The cooperation of at least 10 GOP Senators will be required to reach 60 votes in the chamber – the required number to pass bills under normal procedures, assuming all 50 Democratic Senators would be on board.

That said, if Republicans don’t play ball, Senate Majority Leader Chuck Schumer (D-NY) has threatened to move forward with a budget process that would allow 50 Democrats to pass certain parts of the Biden plan without GOP cooperation. That said, budget reconciliation has its limits.

According to Sen. Rob Portman (R-OH), one of the ten Republicans who signed onto the compromise proposal, reverting to reconciliation would add to the partisan divide in Washington.

“If you can’t find bipartisanship on COVID-19, I don’t know where you can find it,” Portman told CNN‘s “State of the Union,” adding that the Republican plan would have “all of the health care funding that President Biden has in his proposal.”

The other GOP Senators signed onto the bipartisan effort aside from Cassiday and Portman are: Susan Collins of Maine, Todd Young of Indiana, Mike Rounds of South Dakota, Lisa Murkowski of Alaska, Mitt Romney of Utah, Shelley Moore Capito of West Virginia, Jerry Moran of Kansas and Thom Tillis of North Carolina.

Submitted by Anonymous,

So you just “raided” your first company: A letter to non-professional traders

Congratulations to “WallStreetBets”. Gamma trading is fun and anyone who has traded the market for the past three decades saw this coming. As capital markets look toward Monday and what is “priced in” to GameStop, something bad is happening. And if nobody says something, the consequences will harm everyone.  

For background, I’m a portfolio manager who has been doing this since before 2009. This will be my third market cycle.  

Zero Hedge has written extensively on market manipulation, specifically in commodity markets and equities using “boiler rooms” and high frequency trading algorithms such as the infamous “ignition trades” much of this knowledge has not been properly communicated or shared with “wall street bets” retail traders. A short squeeze is legal, but when a coordinated attempt at price manipulation is attempted, then it can be defined as a dangerous offense. This is a grey area. If you are new to finance, please study up on what happened when previous traders have tried to “corner the silver market” or the infamous Volkswagen trade or LIBOR manipulation. Unwinding and the liquidity drains on the larger capital market to solve these trades are dangerous.

On a related topic, liquidity trades can have unintended consequences on other parts of the economy, such as when program trades in 1987 led to a flash crash.  

The capital markets work on a public hazard principle, much like driving a car. You drive safe to protect the other guy. You can drive fast, but the damage caused to the reputation of the market and confidence in counter party risk can be permanently damaged; just like a deadly car crash. And the margin of error, like extreme speeding can wipe you out in a second. A “flash crash” can wipe you out, be hedged and make sure you understand the math & market structure of these leveraged trades.

Retail investors must understand or should be made aware of that gamma trading depends on liquidity shortages and as we saw in the market action of Gamestop and other stocks today, this market structure is dangerous to everyone. Complacency on 50% moves upwards must also be monitored and expected losses of 50% or more must also be factored in before people invest; in much the same way people must make educated investments before making investments in options, where unlimited losses may happen, or stocks on margin.

The reason I say this to you is because every mania since 1918 has led to a major market crash over the past 100 years. In every major market crash, it was retail accounts being locked out which led to crippling economic losses amid the retail public who exuberantly placed their savings into the market.

Many people today complained about their retail accounts to “Robinhood” and “Ameritrade” being locked out for various unconfirmed reasons. However, if one were to “google” this is a very loud alarm bell of a market top.

In 1929, Joe Kennedy saw, was horrified and wrote to the WSJ that manias were encouraging retail traders to form trading clubs and were investing in “Insull Trusts” and hundreds of penny trade brokerages were emerging in New York to prey on their inexperience. The Insull Trusts were overleveraged assets, often real estate and utility companies which were propped up by stock buybacks and equity speculation. When the first market crash happened, which led to the Great Depression, it was the Penny Brokers, unable to satisfy retail accounts due to the brokerages own cash crunches which led to the infamous riots and wave of iconic “jumping” suicides in the weeks after the crash. Those were not bankers who killed themselves but wiped out retail punters as documented in many economic history books about the crash.

In 1998, again, after a euphoric mania the dot com bubble stocks gave way to the collapse of the tech sector, following the disaster of the “Pets.com” IPO. In the flash crash, retail investor accounts were locked. Preventing millions of “Freedom 55” investors (Generation X and Boomers) from trading out of their positions. Many of those households and their savings were wiped out. Those households which survived 1998’s market crash & recession only returned to their previous wealth level, after inflation adjustment in the early 2010’s. Faith in retail brokerages, market integrity and public trust in banks never recovered. Even to this day, legislation like “Glass Stegall” is spoken about, but nobody really remembers why or how it happened; or its consequences to those who suffered the most in 1998.

Like 1998, we have seen “Robinhood” and other retail traders allegedly start to moderate access to the stock market. Economists talk about an economic event called a “Minsky Moment”. Given the market signals, retail investors should review these economic signals before a Minsky moment happens in this momentum driven market.

I would not be shocked if “Robinhood” is the new Lehman Brothers and we are months away from a major crackdown on capital markets by regulators. I also suspect that should GME suffer a Minsky moment, the thin liquidity structures in our current market will trigger a major market move similar to 1987.

I will say I have not studied this specific issue to cause alarm, but if regulators are not watching this issue and its parallels to history, now they should be.

So be safe out there.