Month: January 2022

Over the weekend, Goldman sparked a hawkish frenzy when, in its latest FOMC preview, the bank added to the fuel started by Jamie Dimon who last week predicted “six or seven” rate hikes when it said that while its base case remains at 4 rate hikes and balance sheet runoff starting in July…

… “recent developments have made us more concerned about the inflation outlook” and as a result there is risk “the FOMC will want to take some tightening action at every meeting” until the surging inflation picture changes. This, Goldman’s chief economist Jan Hatzius says, raises the possibility of a hike or an earlier balance sheet announcement in May, and of more than four hikes this year, including the possibility of one rate hike at every meeting in 2022.

For its part, JPMorgan balked at this hawkish take, and as we discussed also over the weekend, the bank said that “the Fed is likely to strike a more dovish tone relative to extreme investor expectations” (expectations which reached panic levels thanks to JPM’s own CEO, Jamie Dimon, who said there is a “good chance the Fed will hike six or seven times”).

Still the damage from the outlandish hawkish warnings from Goldman has been made, and in its FOMC preview, JPMorgan wrote that while the Fed meeting should be a non-event, it now has investors questioning (i) will the Fed end QE next week; (ii) is next week a live meeting or does liftoff begin in March; and, (iii) is the first rate hike 25bps, 50bps, or more. The answer to all these, according to JPMorgan, is “stop freaking out”, to wit:

• (i) No – while the economy does not really need additional stimulus there is noticeable impact from Omicron without a clear answer as to when Omicron fully dissipates.
• (ii) The JPM view is that liftoff begins in March. With a 6- 9 month lag between Fed action and economic impact, pulling forward liftoff to January does not have a material impact on the economy and the bond market, and thus financial conditions, reaction would potentially be negative enough to derail the Fed’s attempt at a soft landing.
• (iii) 25bps. While we have seen the Fed cut 50bps or more, we have not seen the Fed hike in those increments. While Powell seems the most likely Fed chair to attempt this, it seems unlikely. That said, we could see the Fed accelerate their hike schedule form an assumed once per quarter to once per meeting. But even that aggressive of an approach is not being price into markets and would seemingly violate Powell’s preferred data-driven approach.

In short, while Powell pivoted hawkish after incorrectly saying inflation is transitory for much of 2021, he has not telegraphed – via the Fed’s favorite mouthpiece – the WSJ – any incremental hawkishness, and it is virtually assured that Powell will not surprise to the hawkish side. As for everything else – a first rate hike in March, Fed balance sheet runoff in March and 25bps rate hikes, all of that is priced in.

That also explains why the recent surge in rate hike odds has collapsed and the market no longer sees even 4 rate hikes in 2022

With that in mind, here is a handbook JPM’s Allison McNellis put together ahead of today’s 2pm meeting:

“After a swift move cheaper last week, we are now back under 4 hikes priced in 2022. Given we are still in the early innings of communication on both pace of hikes and balance sheet there is still plenty scope for the Fed to surprise to the hawkish side if they choose. Our traders have taken off their front-end shorts in whites and prefer a bearish bias in greens/blues. If we do price in more in fronts they think it is more likely to be 25bps at each meeting rather than a 50bp move. The vol desk continues to like risk that leans short duration, short vol, and short skew.

I think it is important to remember though consensus has formed around a fairly straight-forward release anything is possible in this environment given: 1) the range of data outcomes in the next 6ms 2) the level of uncertainty around financial conditions 3) the Fed being forced to pursue a communication strategy from behind the curve, not ahead of it.”

SIGNALING MARCH LIFT OFF

• Consensus view – Signal March without being 100% explicit in the statement. Feroli likes using “soon” but I believe this has only been used in reference to balance sheet policy historically. I prefer bringing back 2016 language that says the “case for an increase in the federal funds rate has continued to strengthen.”
• Hawkish option – Use of “next” in statement. This was used in October 2015 to explicitly signal December 2015 first hike. I think this is unlikely in the statement but possible the word surfaces in the presser.
• Dovish option – Unchanged statement. An upgrade of inflation risks in the 1st paragraph but no change to the current last paragraph on monetary policy stance.

GUIDANCE ON THE PACE OF TAPERING

• Consensus view – They will steer clear of using ‘04 or ‘15/16 language and instead describe the path as data dependent.
• Hawkish option – Anything leaning towards “measured” and hinting at the potential for 50bps moves.
• Dovish option – Anything leaning towards “gradual” or a more wait-and-see approach to the cycle.

BALANCE SHEET PLANS

• Consensus view – No change but marginal progress shown at the presser. Recall at the December presser Powell signaled that they would be discussing run-off “at the next meeting and another at the meeting after that, I suspect.” At the very least he would update that language and at most give some idea of pace/size options.
• Hawkish options:
  • 1) End QE early at this meeting
  • 2) Release a normalization note
  • 3) Use “relatively soon” in the statement.
  • Feroli has ending QE early at a 25% likelihood and from the title of my last note you can see I clearly think it is the right thing to do. However not a single Fed speaker has signaled that this is an option and the equity market is probably putting this at sub 5% chance. If it happens QT trades benefit most (tips get hurt). As far as I can tell not many are talking about a policy normalization principles note in the style of June 2017. If they are planning on changing balance sheet composition in any way – I would expect them to use this release at some point to keep their options open in terms of strategy around SOMA add-ons and MBS. In 2017 the meeting before they announced QT they used the term “relatively soon.” I think it would be very strange for them to use this while still buying bonds. If they were to stop QE and signal QT this strongly, equities will be very unhappy.
• Dovish option – Say nothing. Powell punts the discussion firmly in the presser with nonew level of detail.

THE PRESS CONFERENCE

• Consensus view– Powell is asked about the move in asset prices including TIPS, risk, and MBS. He stands firm that upside risks to inflation warrant an upcoming change to policy. In December presser he highlighted that financial conditions can change rapidly.
• Hawkish option- This is the first time a Fed member will comment on equities. He could be completely dismissive of a -10% move.
• Dovish option- Powell throws the equity put on the table and shows real concern about the medium term impact of the correction. Inflation is far too high for him to do this now in my view.

* * *

Bloomberg Markets Live commentator Ven Ram also chimes in with his own forecast on what the Fed will say, writing that undeterred by U.S. stocks going down like ninepins, “the Fed is likely to signal that it is likely to start raising rates at its next meeting in March and also flag the end of its bond purchases – thank you for overstaying your welcome, QE.“

The statement is also likely to acknowledge that members discussed allowing maturing Treasury securities to run off its gargantuan balance sheet some time later this year without specifying any date. (Chair Jerome Powell is likely to be asked about this at his briefing. While he may not commit to a start date, a specific reference to a particular quarter may be taken by the markets as being hawkish and cause a curve steepening as it would reflect confidence about the economy).

Other questions of particular interest to traders will be his take on the number of hikes being priced by the markets this year (His response: “Monetary policy isn’t on a pre-set course”) and whether the Fed would be averse to a 50-basis point increase in March (:If his response suggests that the Fed is receptive to the idea, that would be taken as pretty hawkish. However, my two cents is that he will toe the line set by Governor Christopher Waller”).

And while Ram’s take leans on the hawkish side, a much more dovish take comes from Bear Traps report Larry McDonald who writes that “the Fed has been using their Street pawns – namely Goldman Sachs – to rachet up rate hike and quantitative tightening (QT) expectations. All this noise out of the Powell trombone has come with tightening FCIs. As we learned in Q4 2018, when front rates (2s from 20bps to 100bos since September) scream higher – financial conditions behind the scenes tighten FAR faster than clueless academics can measure on the fly.”

His conclusion: “Powell has enough of a recent economic soft patch in the data to walk-back his insane declarations (4 hikes in 2022 and QT, for six-seven total). The slightest backtrack is all that is needed to trigger a large counter trend rally – gold and silver miners will be 15-25% higher on any softening of the language. Powell won ́t be doing high-speed “Michael Jackson moonwalk” in the opposite direction, but he will be moving gently that way. That should be enough of a fire hose to calm things down – for now. Look for high drama Monday – Tuesday with a large rally in risk assets by the end of the week“

Ukraine in the past days has made it clear that it thinks both the US and UK’s reduction of embassy staff and their families is an overreaction. On Monday and Tuesday, Ukrainian Defense Minister Oleksii Reznikov told parliament “there are no grounds to believe” Russia will invade imminently. “Don’t worry, sleep well,” Reznikov said. “No need to have your bags packed.” Ukrainian leaders have expressed anger over the move driven by ‘hysteria’ while outright rejecting as “premature” a State Department travel advisory for Ukraine on Sunday that cited “the increased threats of Russian military action.”

Apparently undeterred by the contradiction and what it’s eastern European ally is clearly advising against, the Biden administration has pulled the trigger on Wednesday, issuing an urgent advisory telling all American citizens they should depart Ukraine amid signs of an “imminent” Russian offensive. 

New alert from @USEmbassyKyiv urges U.S. citizens in Ukraine to consider departing now. “The security situation in Ukraine continues to be unpredictable due to the increased threat of Russian military action and can deteriorate with little notice.” pic.twitter.com/0YKEjCQ9JU

— Christopher Miller (@ChristopherJM) January 26, 2022

“The U.S. Embassy in Ukraine is urging U.S. citizens in the country to consider departing now via commercial or other privately available transportation options, citing increased threat of Russian military action,” according to Bloomberg.

The embassy’s new security alert reads precisely:

“The U.S. Embassy urges U.S. citizens in Ukraine to consider departing now using commercial or other privately available transportation options.”

The acting U.S. ambassador to Ukraine told @ABC News that an order for diplomats’ families at the embassy to leave the country was issued because Russia could attack “any day now” if it chose. https://t.co/nRdGmIPBsm pic.twitter.com/gpZcBHIGh5

— ABC News (@ABC) January 26, 2022

Just the day prior a US Embassy official and Kiev explained that diplomats’ families at the embassy had been asked to leave the country because Russia could attack “any day now” if it chose – which echoed a prior statement by White House press secretary of Jen Psaki. 

This as the US has continued to fly arms shipments into Kiev, including Javelin anti-tank missiles, which will presumably be sent to the front lines on Donbass.

~300 Javelins.

79 tons of security assistance for 🇺🇦’s armed forces.

Tonight, the third shipment of $200 million in assistance authorized by President Biden arrived at Boryspil Airport in Kyiv. The 🇺🇸 stands with 🇺🇦, and we will continue to provide 🇺🇦 the support it needs. pic.twitter.com/RIPMLMOmIY

— U.S. Embassy Kyiv (@USEmbassyKyiv) January 25, 2022

In this fresh alert urging the departure of Americans, it appears Washington has its recent experience of the chaotic and botched Afghan evacuation in mind, wanting to avoid another such disaster. This after days ago the administration admitted that in the instance of a rapid Russian offensive into Ukraine, it simply wouldn’t have the capability to get all US citizens out.

What’s more fun to ridicule than just one ARKK ETF? A 2x leveraged ARKK ETF that experiences twice the “performance” of its underlying.

Though we’re not sure why anyone would want to replicate ARKK’s performance to a 2x degree, but for the idea that the “Innovation” ETF is due for a massive rebound, that appears to be exactly what is happening.

A filing on Tuesday with the Securities and Exchange Commission has introduced the AXS 2X Innovation exchange-traded fund (ticker TARK), which seeks to target 200% of the “performance” of the ARK Innovation Fund, according to Bloomberg Wednesday morning.

The product, being launched by Investment Managers Series Trust, won’t come to market for at least 75 days. By then, who knows what will be left of ARKK? It’s down 55% from its recent peak after plunging 25% year to date already. 

On the other hand, the creators of the Tuttle Capital Short Innovation ETF (SARK) inverse ARKK ETF actually have something to write home about. They are up 56.85% over the last six months while ARKK has tumbled more than 40%. 

The fund uses swap contracts to short the Innovation ETF, Bloomberg wrote on Wednesday. 

SARK posted a record inflow of $94 million, its most recent data shows. This suggests that investors believe Cathie Wood’s rout may only be getting started. Those who will take to the new TARK ETF will be betting against SARK owners. 

Either way, to some degree, the derivative ETFs are good press for Wood, whose ARKK experienced more than $4 billion in volume yesterday, we noted. Bloomberg ETF expert Eric Balchunas commented this week that, despite the ETFs losses, the robust volume portends well for the ETF trading like a popular sector ETF for years to come. 

Authored by Peter Tchir via Academy Securities,

Six Hours of Second Guessing Yourself

I generally hate FOMC meeting days. Despite all the preparation you’ve done, most of us seem to spend the hours ahead of the decision at 2pm and the press conference at 2:30 second guessing everything. Staring at the tape trying to divine some information that you’ve missed. That isn’t made any easier in what has been an extremely volatile tape with intraday swings that are as violent and large as I’ve seen in a long time.

We will come back to the Fed in a moment, but there is a consensus, which I generally agree with, that Fed days tend to support risk assets. That whatever fears we have built up will be assuaged when Chair Powell finally addresses us.

Microsoft

Microsoft’s earnings hit the tape and the stock dropped almost 5% dragging the Nasdaq 100 futures down to almost the lows they hit on Monday (you had to be pretty quick to buy some here). The conference call turned Microsoft around and the Nasdaq 100 is back to almost where it started the week. On top of the Fed, we need to digest TSLA earnings tonight (2% of S&P 500, 4.2% of Nasdaq 100) and AAPL tomorrow (6.7% of S&P 500 and 12.1% of Nasdaq 100).

Capitulation or All-in?

I read a lot about how Monday was a capitulation event. It does have that feel and was a tradeable bottom (as was last night’s post close fiasco). I continue to try and sell rips and nibble at dips here.

Given my “traditional valuation matters” thesis, I am most concerned about the ARKK and QQQ type of stocks. It is particularly difficult to sort out what part of these moves is repricing in its own right and response to potential Fed action (for better or worse we will have clarity on the Fed in 6 hours or so).

• If you strip out all the perma-bears taking victory laps, my stream was heavily skewed to those claiming to be buying the dip, that the bottom was in, etc.  That was yesterday before we tested those bottoms again post close.

• QQQ has seen outflows and had its first inflow in a couple weeks yesterday. Not quite capitulation, but certainly cautious and those flows mirror my view reasonably well. SPY has head steady outflows, including yesterday. I’m not as fixated on this, but it has now significantly outperformed QQQ and could fit the “sell what hasn’t moved down” theme.

• ARKK on the other hand has seen a resurgence in flows. Shares outstanding gapped higher in the past few days and are now back to where they were in November when the decline in that fund started. Certainly showing that animal spirits are alive and well. Finally, TQQQ, had its biggest inflow in at least 3 years! While there have been inflows each and every day of late, the flows published on Tuesday were almost astounding. That is bordering on exuberance.

I would be much more comfortable not selling rips if we hadn’t seen some of those flows and if my social media streams seemed to be far less bullish.

The Fed – Today

In a nutshell, I think the Fed will focus on balance sheet management rather than rate hikes as their primary tool for combatting inflation in the coming months.

We should hear a lot of “data dependent” comments from the Fed today. They do not want to paint themselves into a corner. Much of what the Fed has been doing is to “jawbone” not only the markets, but also politicians.

I think initial reaction could well be positive. I think part of the overnight rally is just pricing in the generic view that the Fed won’t sound as hawkish.

Having said that, I think quantitative tightening, if that is indeed their preferred method, will weigh on risk assets over time.

Since the minutes came out I think the market has been driven more by balance sheet concerns than rate hike concerns.

So, talk back the 4 hikes, but focus on quantitative tightening is initially bullish for risk and then fades.

The more hikes or more QT the worse it goes.

If the Fed walks back QT and talks about that being a next year event, I’d immediately become much more “risk-on”.

The Fed – Over Time…

I expect the data to disappoint. Demand got pulled forward. Stimulus is ebbing. Policy from the Fed and from D.C. are far less encouraging. Geopolitical risk is accelerating. Lots of reasons to expect some hiccup in the data.

I think the politicians will learn that lack of jobs is way worse for being reelected than inflation.

Since politicians have played a role, in my opinion, in shaping the inflation needs to be crushed narrative, they will have a hand in reversing course if they see signs the economy is weakening. These people live soundbite to soundbite in some cases.

The Fed, which doesn’t live soundbite to soundbite, will be quicker to tone down the hiking rhetoric at first signs that inflation is slowing or, worse, the economy is slowing.

Rate Outlook

Unless the Fed is far more dovish than I expect, I think we see 2s move to gradually lower yields and then rapidly lower if the economy slows.

On 10s, I think we see a move to lower yields, part of a risk-off move (I think QT affects risk assets negatively which in turn drives bond prices, which seems weird since the buying is in bonds, but..). Then yields drift back towards 2% as people realize the Fed will always favor growth over inflation.

There may be a dual mandate, but it is heavily skewed to one side.

Two Very Big Narratives on a Collision Course

With all that said:

• Mildly bearish to neutral on risk coming into the Fed since need to respect the propensity to pop (more bearish if we rally more ahead of the Fed).

• QT or lack thereof will be my key trigger.

  • No QT or much delayed QT and the valuation thesis can be put off for another day.

  • With QT I think the selling pressure in those areas returns.

Good luck staring at the screens and waiting for the show to being at 2pm!

Oil prices are dramatically extending yesterday’s gains, despite a smaller than expected crude draw reported by API, as the tension between the West and Russia over Ukraine continues to add to geopolitical risk premia.

“Crude prices are soaring on expectations that an already tight oil market could see geopolitical risks exacerbate the current imbalance,” said Ed Moya, Oanda’s senior market analyst for the Americas.

“The risks are not just with the Russia-Ukraine border, but also include Iran nuclear talks and also North Korea.”

In another bullish development for oil prices, more Chinese are expected to travel for the Lunar New Year holiday this year than in the previous two years, despite the Omicron spread, in a boost to fuel consumption in the world’s largest crude oil importer, according to data cited by Bloomberg.

For now, all eyes will be on gasoline demand and crude inventories.

API

• Crude -872k (-2.1mm exp)

• Cushing -1.0mm

• Gasoline +2.4mm (+2.2mm exp)

• Distillates -2.2mm (-1.6mm exp)

DOE

• Crude +2.377mm (-2.1mm exp)

• Cushing -1.823mm

• Gasoline +1.297mm (+2.2mm exp)

• Distillates -2.798 (-1.6mm exp)

The official crude inventory data surprised the market with a 2.377mm build (vs 2.1mm draw expected and a small draw reported by API). Cushing saw its 3rd straight week of draws. Gasoline stocks grew but at less than expected while distillate inventories fell most since early December…

Source: Bloomberg

Gasoline demand remains drastically low – even assuming seasonals…

Source: Bloomberg

US Crude production slipped to its lowest since November…

Source: Bloomberg

The 4 week average volumes for U.S. crude exports are struggling to rise above the 3m b/d mark. This is despite perceptions that foreign demand is robust against a backdrop of supply shortages. But a pick up is expected in the weeks to come as Chinese refiners resume purchases for delivery after the Winter Olympics.

Bloomberg’s Danny Adkins notes that jet fuel inventories are at their lowest seasonal level in EIA data going back to 1992, despite a modest build last week. Stockpiles have held below 35 million barrels for four straight weeks, the first time they have done so since 1996.

WTI is holding just above $87 (up $2 from last night’s API report) ahead of the official data and slipped very modestly on the surprise build…

Finally, we note that it would seem President Biden’s sabre-ratlling in Eastern Europe are not helping his cause at home…

Source: Bloomberg

As soaring crude and wholesale gasoline prices (driven by geopolitical tensions) imply gas prices at the pump are set to soar.

The market is also skeptical the Biden administration can do anything to slow down oil’s move higher as OPEC+ seems set to stick to gradual production increases, Moya said.

U.S. natural gas futures jumped as much as 6% to $4.298/MMBtu Tuesday morning as traders are concerned about the possibility of a major winter snowstorm on Friday evening into Saturday for the Mid-Atlantic and Northeast regions. 

We first alerted readers on Monday about the prospects of “a possible nor’easter impacting the Mid-Atlantic and Northeast from Friday Night to Saturday.” 

Within 72 hours of the storm (today), meteorologists can start discussing potential impacts. Around 48 hours (Thursday), more accurate snowfall total estimates will be circulated on social media and mainstream media outlets. On Friday, meteorologists can pinpoint town-by-town potential impacts. 

So far, what National Weather Service (NWS) meteorologists are saying is the storm is in the Pacific Northwest on Wednesday and will traverse the U.S. and Canada. It will then develop into a nor’easter Friday afternoon off the East Coast and could rapidly intensify into a so-called “bombogenesis.” 

“It is definitely a concern for us,” Alyson Hoegg, a senior meteorologist with AccuWeather Inc. in State College, Pennsylvania, told Bloomberg. “When it forms off the southeast coast, it is going to rapidly strengthen.”

In the coming days, readers will hear several “B” words, including bombogenesis, bomb cyclone, and blizzard. 

To familiarize everyone with bombogenesis, it’s when the storm’s central pressure plunges by 24 millibars in 24 hours (thus causing it to intensify rapidly). 

Rich Bann, a forecaster with NWS in College Park, Maryland, said computer models pointed to heavy snow across New England. He said there’s a chance for accumulating snow from the Baltimore–Washington metropolitan area to New York to Boston along the Interstate 95 corridor. 

Meteorologists have said the amount of snow the Mid-Atlantic and Northeast receive comes down to the storm’s track if the storm hugs the coast, which means more snow inland. It would be quite the opposite if the storm went out to sea. 

Forecasts are not locked in and will most likely change in the days ahead. Still, energy traders are bidding up natgas as they speculate there will be heightened demand as the storm rolls on in by the weekend. 

Authored by Charlie McElligott, Managing Director of Cross-Asset Strategy at Nomura,

“Pre-FOMC drift” – but this time, thanks to a massive “kick-save” from Microsoft guidance which turned the entirety of global risk-assets from cratering lower in the after-hours trade last night to now, spasming higher into Fed later today (NQ +4.4% low to high) and with still substantial “short Gamma vs spot” out there for Dealer hedging purposes, as well as sharply “netted-down” exposure from Fundemental investors and outright “shorts” in CTA Trend….while conversely, we currently see a quiet Rates trade (we did see a buyer FVH2 in 5k / $254k / 01 of UST belly, as well as UPSIDE protection against a “dovish surprise,” e.g. FVH2 120C ppr pays 14-1.5 on 4k…although later see more of the same “momentum” reloading back into large downside FVH2 119.5 / 119 PS ppr pays 13.5 on 25k…and also a fairly largly “buy” of ED$ May Put Fly)

However, the meat of the note today into the FOMC will touch-upon the “potential” that a “no hawkish surprise” or even “dovish hawk” Fed commentary (vs well-managed expectations) in-and-of-itself could see some of that recent “downside Crash” hedge buying get unwound, which then could set-off a +++ “virtuous feedback loop” spiral from Vol –space into the Equities –space, where exposure has been netted-down with violence on the fundamental / discretionary side, is at a historically “low” allocation from the Vol Control side, and of course is outright “Short” on CTA Trend

This is going to come down to “Jerome Semantics”—the main “hawkish” risks being the 1) balance-sheet conversations (potential to end QE a month early per Rob Dent, or mention possibility of selling MBS as part of the normalization process) and, in my eyes, 2) the FCI convo also risking disappointment for Equities folks looking for a sympathetic eye”…although I will say that with March liftoff already a certainty and with 4 hikes back to being fully priced-in for ’22 as per FFF, “hawkish surprise risks” there are fairly limited here as it pertains to actual policy rate path

Any modicum of “dovish surprise” / “dovish hawk” vs these already high and well-messaged “hawkish” expectations, however, then risks a “momentum shock,” disrupting a currently crowded “trend” friendly market, as per CTA positioning in 1) bearish / hawkish in Bonds and Rates along with the aforementioned 2) “short” Equities…but again, the local / tactical Equities “upside” catalyst on a “dovish hawk” message vs expectations would be the Vol space as catalyst the Equities “virtuous feedback look,” via Vanna- and Gamma- impacts from Client downside hedges being hammered & unwound (as Dealers then cover their futures “short hedges” and further squeezing stocks and hitting vol lower—rinse / repeat), then sling-shotting Equities higher

The perverse thing is (and as mentioned yday) that the more bullishly that Equities- and Risk- trades, the more scope markets then have to price in more “hawkish” Fed action down the pipe—i.e. a longer rope to hang ourselves with IF inflation stays sticky and the Fed simply is forced to “tighten FCI” more aggressively (either with more hikes, faster BS or both)—hence, this will remain a “traders’ market” as long as the we remain in a “tightening” regime

• Nasdaq (and broad Risk-Assets) rescued from a potential re-entry into the “Gates of (more) Hell” overnight, as the initially underwhelming Earnings results from crowded Mega-Cap Tech Growth bellwether MSFT led Nasdaq futures -1.8% after the US Cash Eq close on the lows…but later then turned into a raucous relief rally, with NQ +2.4% on the highs, as on the call, the company guided v bullishly in its Cloud business, while also positive on commercial bookings and the overall supportive IT spending backdrop—which might have single-handedly saved the entire Software space (remember, IGV -25.5% since mid-November!), and is now lifting all cross-asset market risk-sentiment

• As Nasdaq swung efffectively ~+4.4% low-to-high in the after-hours trade on this “OMG Software / Secular Growth isn’t Gonna Die!” relief print, we have seen the return of some incremental “animal spirits” across Global Equities (Eurostoxx +2.6%), Commodities (Copper +1.5%) and Crypto (ETH +7.2%)

• Separately, “stretched” Equities Vol is tiling “heavy” on the MSFT kick-save and even before the FOMC, and as I like to to say is at risk of “collapsing under the weight of its own implied expectations” after the recent grab for “Crash” into the Monday morning liquidation / capitulation and ahead of the Fed “hawkish” event-risk

  • VVIX closed north of 150 yday—a +3 z-score over the past 10 years—as an expression of the sudden renewal in “tail”demand seen Friday and Monday at the peak of the capitulation

• Obviously Equities Vol is not going to completely come “undone” AHEAD OF today’s all-important Fed meeting—as there is just too much information regarding 1) FOMC timing and particulars of the BS / QT path (risk of earlier end to QE by a month, but also any specific guidance on run-off “caps” or specific commentary on plans for MBS to see outright sales), along with 2) the anticipation of the Fed Chair’s language in acknowledging the recent “financial conditions” tantrum, which was almost exclusively an Equities-driven dynamic

So regarding my expectations for the Fed today:

• It is my view that balance-sheet commentary is the chief source of “hawkish risk” today, including Nomura Economist Rob Dent’s out of consensus view that we could see the potential end to QE purchases a month earlier than expected (Feb instead of Mar, which gives you more optionality on QT runoff timing IF inflation continues with its sticky-persistence), but also the market anticipating more specific guidance on run-off caps, and even the potential for clarity on their plans for MBS

• Similarly, as it pertains to questions on FCI, Powell could also “disappoint” Equities too in the sense that I would expect him to counterbalance any (hope-based) “dovish” mention of recent Equities Volatility by simultaneously then-noting that more “economically important” Credit Spreads remain near both post COVID- and post GFC- “tights”…thereby downplaying the recent FCI tightening and proving-out that “it IS different this time” vs the 4Q18 / 1Q19 “Jerome bends the knee to markets” pivot

• However, I will acknowledge that there are ABSOLUTELY “dovish hawk” (!) scenarios out there, particular relative to what market-pricing and expectations have been managed-to on the hiking-side

• For instance: What if, theoretically, Powell signaled that despite with the March hike as a “lock,” he instead indicates that the current preference is for “just” 3 total hikes in ’22 as it stands now (with “openness” to consider 4), and that the Committee actually prefers balance-sheet adjustments instead of “more hikes,” with the usual “data dependent” (Inflation, Inflation Expectations, Wages) caveat?!

• Despite most intellectually-honest folks realizing that the above hypothetical “dovish hawk” outcome would be outrageously counter-productive to the goal of reining-in “too loose” financial conditions, which have facilitated said excesses in markets / valuations as well as the need to try and crimp some of the “demand” impulse which too is feeding into inflation and thus ultimately HAS TO BE REVERSED by an escalation of Fed tightening as we move forward…HOWEVER, I am certain that Equities would rip higher on any “Dovish” Rates market “short squeeze” response as it relates to v hawkish FOMC expectations, with the added “crowded positioning” dynamic of 1) hawkish USTs / Rates trades and 2) large Equities underweights as fuel for unruly “reversal” moves higher in both (a.k.a. “Risk Parity Heaven”), in addition to a huge Vol market “upside kicker” in this case

To this “crowding” point, a “dovish hawk” message would be a strong “reversal risk” vs current CTA Trend positioning, which as highlighted of late is almost consensually “short G10 Bonds & MMs” alongside “short Global Equities” futures—hence risking a “momentum” shock on any “not hawkish” or outright “dovish” squeeze…

Bond Positioning…

Equity Positioning…

Here are the trigger levels for the next moves…

Source: Nomura

However, the larger upside “sling-shot” risk for Equities is that all of the aforementioned grab for “Crash-y downside” hedges seen Friday and Monday—which has ABSOLUTELY exacerbated the extreme “Negative Gamma” dynamic that has been throwing us from one side of the boat to another, with hedge flows “chasing” in both sell-offs and rallies—could finally allow for a “Vol Crush” IF we clear Fed with “no new hawkish surprises” or even a “dovish Hawk” message, and those Puts are precipitously unwound, sending Vol lower and forcing Dealers to buy-back hedges

The potential “virtuous” feedback loop for “higher Equities” on the impacts of iVol again “bleeding” lower are many:

• VIX at 29 close yday roughly implies ~1.8% daily SPX change—which is a lot of movement to sustain

• Vol is mean-reverting, thus my constant mention of the idea that high absolute levels of Vol tends to “collapse under its own weight,” heading lower as the market simply cannot consistently meet 1.8% daily change-type days over time, because exposure trimming and deleveraging from VaR management ultimately “clears” and more importantly, “rich vol” is sold / monetized

• So IF markets were to clear Fed “event risk” with no new “hawkish surprises” today…or even get that “dovish hawk” scenario…. downside Puts / hedges should begin getting  cratered and unwound, so this already very-high implied Vol is gonna come off / move lower

• And this is the critical “Vanna” second-order impact, where lower iVol will see the Delta on those OTM Puts they’re short to clients then decrease—which means that options Dealers will have to cover some part of their “short hedges,” buying-back Futs and lifting the market in the process

• With the market running higher and spot rallying further away from those downside strikes, you’ll get more covering, which too will see Vol drop even further, which incentivizes more hedge puking, rinse / repeat—hence “virtuous”

• Additionally with a declining iVol dynamic, there is a + Gamma impact too as Gamma tends to get “longer” as Vol goes lower, which will then further act to reduce / reverse the recently hyperactive “Short Gamma” accelerant hedging flows and instead, act as a “stabilizing” cushion

Notably, these “bullish” scenarios are separate from the current “constructive / bullish” flows that we are seeing, which are:

1) “sell Put, buy Call / CS” Riskies variety in both Index / ETF and single-name; we are also seeing…

2) EM Call buying (25k EEM Mar 50 Calls for $0.88 and we saw a buyer of 36k ASHR Apr 40 Calls for $0.50) and…

3) Credit upside buying (LQD Feb 128.5/129.50 1×2 Call Spread 20k x 40k. We also saw a buyer of 5k LQD Apr 130 Calls delta-neutral) for the first time in a long while, on top of…

4) more ongoing “overwriter” flows selling “rich” optionality as traders get increasingly comfortable with “upside / downside” of the market here 

(H/T Alex Kosoglyadov on aggregating these flows)

In the meantime, key Options metrics / levels for “the big two” SPX and Nasdaq:

SPX / SPY $Gamma -$7.1B (8.7%ile), currently ~ -$6B per 1% move (ref 4415), “max short Gamma vs spot” at ~4300, Gamma “flip” up at 4540; Net $Delta is insanely Short / Negative at -$503.0B (0.7%ile), Delta flips positive up at 4589

Source: Nomura

QQQ $Gamma -$294.5mm (8.5%ile), currently ~ -$800mm per 1% move and currently at “max short Gamma vs spot” here at ~$352, Gamma “flip” up at $368.42; Net $Delta is “off the charts” Short / Negative at -$40.2B (0.0%ile)

Source: Nomura

Nevertheless despite this hypothetical Fed “dovish Hawk” reaction scenario above, the perverse thing is (and as mentioned yday) that the more bullishly that Equities- and Risk- trades, the more scope markets then have to price in more “hawkish” Fed action—i.e. a longer rope to hang ourselves with IF inflation stays sticky and the Fed simply is forced to “tighten FCI” more aggressively (either with more hikes, faster BS or both)—hence, this will remain a “traders’ market” as long as the we remain in a “tightening” regime