Tagged: Derivatives

Selling the Future

Karen and I are in Playa del Carmen, having left the US after the Trump election.

Just kidding! We’re celebrating…Karen’s 50th birthday first here on the lovely beaches of Quintana Roo and next in New York where we go often but never for fun. This time, no work and all play.

Speaking of work, Brian Leite, head of client services, circulated a story to the team about Carl Icahn’s election-night buys. Futures were plunging as Mrs. Clinton’s path to victory narrowed. Mr. Icahn bought.

If you’ve got a billion dollars you can most times make money.  You’d buy the cheapest sector options and futures and aim your billion at a handful of, say, small-cap banks in a giant SEC tick-size study that are likely to move up rapidly. Chase them until your financial-sector futures are in the money.  Cash out.  See, easy.

(Editorial observation: It might be argued the tick study exacerbated volatility – it’s heavily concentrated in Nasdaq stocks and that market has been more volatile. It might also be argued that low spreads rob investors of returns and pay them to traders instead.)

If you’re big you can buy and sell the future anytime. The market last week roared on strength for financials, industrials, defense and other parts of the market thought to benefit from an unshackled Trump economy.

An aside: In Denver, don’t miss my good friend Rich Barry tomorrow at NIRI on the market post-election (Rich, we’ll have a margarita for you in Old Mexico).

We track the four main reasons investors and traders buy or sell, dividing market volume among these central tendencies. Folks buy or sell stocks for their unique features (stock picking), because they’re like other stocks (asset allocation), to profit on price-differences (fast trading) and to protect or leverage trades and portfolios (risk management).

Fast trading led and inversely correlated with risk-management. It was a leveraged, speculative rally. Traders profited by trafficking short-term in people’s long-term expectations (there was a Reagan boom but it followed a tough first eighteen Reagan months that were consequences of things done long before he arrived).

Traders buy the future in the form of rights and sell it long before the future arrives, so that by the time it does the future isn’t what it used to be.

They’re grabbing in days the implied profits from a rebounding future that must unfold over months or even years. Contrast with stock-pickers and public companies. Both pursue long arcs requiring time and patience.

Aside: ModernIR and NIRI will host an incredible but true expose with Joe Saluzzi of Themis Trading and Mett Kinak of T Rowe Price Dec 1 on how big investors buy and sell stocks today. 

Why does the market favor trading the future in the present? It’s “time-priority,” meaning the fastest – the least patient – must by rule set the price of stocks, the underlying assets. We could mount a Trump-size sign over the market: Arbitrage Here.

We’re told low spreads are good for investors. No, wide spreads assign value to time. Low spreads benefit anyone wanting to leave fast. Low spreads encourage profiting on price-differences – which is high-frequency trading.

Long has the Wall Street Journal’s Jason Zweig written that patience is an investing virtue.  Last weekend’s column asked if we have the stamina to be wealthy, the clear implication being that time is our friend.

Yet market structure is the enemy of patience. Options expire today through Friday. The present value of the future lapses. With the future spent, we may give back this surge long before the Trump presidency begins, even by Thanksgiving.

I like to compare markets and monetary policy. Consider interest rates. High rates require commitment. Low borrowing costs encourage leverage for short-term opportunities.  We’ve got things backward in money and the markets alike. Time is not our friend.

Upshot?  The country is in a mood to question assumptions. We could put aside differences and agree to quit selling the future to fast traders. Stop making low spreads and high speed key tenets of a market meant to promote time and patience – the future.

Rational Signals

The market message appears to be: If you want to know the rest, buy the rights.

While rival Nintendo is banking on Pokemon Go, Sony bought the rights to Michael Jackson’s music catalog for an eye-popping $750 million. This may explain the sudden evaporation of Jackson family discord. Cash cures ills.

In the equity market, everybody buys the rights to indexes and exchange-traded funds. TABB Group says indexes and ETFs drove 57% of June options volume, with ETFs over 45% of that and indexes the balance. TABB credits money “rushing into broad-market portfolio protection” around the Brexit.

Could be.  But that view supposes options are insurance only.  They’re also ways to extend reach to assets, tools for improving how portfolios track underlying measures and substitutes for stock positions. I’ve wondered about the Russell rebalances occurring June 24 as the Brexit swooned everything, and whether indexers were outsized options buyers in place of equity rebalancing – which then aided sharp recovery as calls were used.

We can see which behaviors set price every day.  On June 24, the day of the dive, Asset Allocation – indexes and ETFs primarily – dominated.  On June 27 Fast Traders led but right behind them was Risk Management, or counterparties for options and futures.

The tail can wag the dog. The Bank for International Settlements tracks exchange-traded options and futures notional values. Globally, it’s $73 trillion (equaling all equity markets) and what’s traded publicly is about half the total options and futures market.

Sifma, the lobbying arm of the US financial industry, pegs interest-rate derivatives, another form of rights, at more than $500 trillion. You’d think with interest rates groveling globally (and about 30% of all government bonds actually digging holes) that transferring risk would be a yawn.  Apparently not.  You can add another $100 trillion in foreign-exchange, equity and credit-default swaps tracked by Sifma and the BIS.

Today VIX derivatives expire. The CBOE gauge measures volatility in the S&P 500.  Yesterday VXX and UVXY, exchanged traded products (themselves derivatives), traded a combined 90 million shares, among the most actively traded stocks. Yet the VIX is unstirred, closing below 12. Why are people buying volatility when there’s none? For perspective, it peaked last August over 40 and traded between 25-30 in January and February this year and again with the Brexit in late June.

The answer is if the VIX is the hot potato of risk, the idea here isn’t to hedge it but to trade the hot potato. And for a fear gauge the VIX is a lousy leading indicator.  It seems only to point backward at risk, jumping when it’s too late to move. Maybe that’s why everybody buys rights?  One thing is sure: If you’re watching options for rational signals, you’ll be more than half wrong.  Might as well flip a coin.

We learned long ago that rational signs come only from rational behavior. In the past week right through options-expirations starting Thursday the 14th, Active Investment was in a dead heat with Risk Management, the counterparties for rights. That means hedge funds were everywhere trying to make up ground by pairing equities and options.

But options have expired.  Do hedge funds double down or is the trade over?  Short volume has ebbed to levels last seen in November, which one might think is bullish – yet it was the opposite then.

Lesson: The staggering size of rights to things tells us focus has shifted from investment to arbitrage. With indexes and ETFs dominating, the arbitrage opportunity is between the mean, the average, and the things that diverge from it – such as rights.

Don’t expect the VIX to tell you when risk looms. Far better to see when investors stop pairing shares and rights, signaling that the trade is over.

Janus ETFs

Everybody adapts, including institutional investors like Janus.

Rattle off a top-ten list of the best active stock pickers visited by teams of company execs and investor-relations pros trundling through the airports and cities of America, and Denver’s Janus likely makes the cut.

Ah, but.  In 2014 Janus bought VelocityShares, purveyor of synthetic exchange-traded products.  Just as a drug manufactured in a laboratory rather than from the plant that first formed its mechanism of action is a replica, so are these lab-made financial instruments. They replicate the act of investment without actually performing it.

It’s neither good nor bad per se, as I explained yesterday to the NIRI San Diego chapter. But synthetics are revolutionizing how public stocks trade – without owning public stocks. Describing its effort at adaptation, Janus says on its website that it’s “committed to offering distinctive strategies for today’s complex market environment. Leveraging almost a half century of investment experience, we are now pleased to make our expertise available through Exchange Traded Funds.”

Janus says it’s intending to offer a range of returns beyond simple capital-appreciation, including “volatility management” and “uncorrelated returns.” Janus’s VelocityShares directed at volatility aim to produce enhanced or inverse returns on the VIX, an index called the “fear gauge” for reflecting volatility in forward rights to the S&P 500.

But traders and investors don’t fear volatility. They invest in it.  On Monday May 16, four of the top 20 most actively traded stocks were exchange-traded products leveraging the VIX.  Those offered by Janus aren’t equity investments but a debt obligation backed by Credit Suisse. Returns derive from what is best described as bets using derivatives.

The prospectus for the most active version is 174 pages, so it’s hard to decipher the nature of wagers. It says: “We expect to hedge our obligations relating to the ETNs by purchasing or selling short the underlying futures, listed or over-the-counter options, futures contracts, swaps, or other derivative instruments relating to the applicable underlying Index…and adjust the hedge by, among other things, purchasing or selling any of the foregoing, at any time and from time to time, and to unwind the hedge by selling any of the foregoing, perhaps on or before the applicable Valuation Date.”

Got that?  Here’s my attempt at translation: “We’ll do the exact opposite of whatever return we’ve promised you, to keep from losing money.”

During the mortgage-related financial crisis there was a collective recoil of horror through media and into Congress that banks may have been betting against their clients. Well, come on.  It’s happening in equities every day!  Exactly how do we think somebody who says “sure, I’ll take your bet that you can make double the index without buying any assets” can possibly make good without farming the risk out to someone else?

In the mortgage crisis we learned about “credit default swaps” and how insurers like AIG were on the hook for hundreds of billions when real estate stopped rising. Who is on the hook for all these derivatives bets in equities if stocks stop rising? It’s the same thing.

Last Friday the 13th, five of the top 20 most actively traded instruments on the Nasdaq and NYSE were synthetic exchange-traded products attempting to produce outsized returns without correlating to the market. That’s 25% of the action, in effect.

For stock-picking investors and public companies it means a significant contingent of price-setting trades in the stock market are betting on moves uncorrelated to either fundamentals or markets. You’ll find no explanation in ownership-change.

What do you tell management and Boards about a market where, demonstrably, top price-setting vehicles like TVIX owned by conventional stock-pickers aren’t buying or selling stock but betting on tomorrow’s future values using derivatives?

In fact, everyone is betting against each other – traders, banks, investors. I take you back to the mortgage-backed securities crisis. The value of underlying assets was massively leveraged through derivatives the values of which bore no direct connection to whether mortgages were performing assets.  That by any definition is credit-overextension. A bubble.  A mania. Then homes stopped appreciating. The bubble burst two years later.

Look at stocks. They’ve not risen since Nov 2014. Is anyone out there listening or paying attention to the derivatives mess in equities?

Bad Forecast

There’s a mistake in last week’s Market Structure Map. We never made it to Boston!

The forecasters missed it and snow walloped us with a ferocity that shut Denver International Airport by air and land and we were stranded for nine hours before daring “impassable” Pena Boulevard and four-wheeling home.  We felt like Loggins and Messina: Please come to Boston in the springtime and she (Mother Nature) just said no.

Speaking of ferocity, yesterday Janet Yellen yelled the dollar down a percentage point. One would expect to see in response stronger equity indexes (SPY rose the inverse of the dollar’s move) and emerging markets (EEM up 1.4%), gold bear bets crushed (DUST dropped 16%), gold bull bets up (GDX up 5.7%), growth stocks up (IWM up 2.8%) and VIX volatility trades taking a beating (VXX off 5.7%, UVXY off 10.7%).  The only thing that didn’t rise that should have is oil – but all the leveraged oil exchange-traded products, which dominated equity volumes Jan 7-Mar 11, have vanished from the most active stocks. Oil trading-stocks like MRO and WLL did jump.

Save for the two stocks – which are influenced heavily by arbitrage – these are all derivatives. ETFs are proxies for assets – instruments derived from but not comprised of stocks. Assets didn’t change hands, just paper. We could call ETFs stock currencies. They are flexible, mutable simulations of investment behavior.

Similarly, monetary policy has become a flexible, mutable simulation of economic behavior. The supply of dollars didn’t alter. Currency relative-values are metered through futures contracts, which are derivatives. Futures on bucks devalued, so relative dollar-value dropped.  Economic growth or contraction was not changed by Yellen’s speech.  You can’t talk tires and trucks and jobs into existence.

Compare to stocks. What’s changed since Jan 20 or Feb 10? Money simulating investment behavior through ETFs and options and futures were a whistling inhalation that then reversed and exhaled and the bellows of derivatives blew and a fiery market manifested, charging up about 12%.

If anything, fuel for the market has diminished. The Atlanta Fed’s model for first-quarter economic growth is at 0.6%, less than half a revised 1.4% for Q4 (compared to the first read of 0.9% that’s a 56% revision, worse than a coin flip or a weather forecast). Earnings expectations are meager.

But the strong dollar is crushing others. Brazil is on the brink of collapse. China could run out of cash in a year. It’s convenient to cast blame for money manipulation but dollars are the reserve currency, the Big Kahuna. The Fed has thrown the world akimbo and infected equities with its policy susurrations.

Economies and markets work when currencies don’t move and supply and demand do. Instead the rest of us humans not in charge of monetary policy are like kids stuck in a room with a bipolar parent off the meds. After all, functionally the Fed tightened policy last week by reducing excess reserves and borrowing from banks through reverse-repurchase agreements. Which is it, Ms. Yellen?

For public companies, yesterday’s trading is an archetype of the modern era.  Our growth clients with higher Risk Management (derivatives) sharply outperformed the market. Tech soared (lumped with growth and a recent laggard). But utilities jumped too.

It’s not rational. The whole market depends on derivatives. The ultimate planetary derivative is money – currency. Central banks have taken to manipulating it in unfathomable ways to create the appearance of things they desire.

I don’t know how it ends but from a structural standpoint in the stock market, the influence of derivatives has reached a fever pitch. It happened in real estate too.


Follow the money. Or the currency.

Yesterday markets soared on queue with a Chinese currency devaluation in the form of lower bank reserve requirements (which increases money and reduces its value). For those who at the words “currency devaluation” feel like collapsing into catatonia, resist the urge. There’s a lesson ahead.

WSJ Intelligent Investor columnist Jason Zweig described Feb 19 how active investors are using Exchange Traded Funds (ETFs). He wrote, “Picking stocks has become so hard that some stock pickers have given up pretending to try.”  One manager told Mr. Zweig he keeps 50% of his assets in ETFs because with 90% of active money trailing the averages, “half of my fund will beat 90% of managers over time.” The winning half is polling the crowd.  It’s more convenient.

The crowd today is comprised of leviathan passive investment typified by the $8 trillion held at Blackrock and Vanguard.  But that’s not what moves daily.  It’s inconvenient for Blackrock and Vanguard to maneuver massive assets like a race car through less than ten big banks executing most trades now for large institutional investors.

But investing is supposed to be inconvenient. Value that lasts should take time. Warren Buffett is 85 and began investing in his teens.  The average holding period for Berkshire Hathaway shareowners is 27 years based on annual turnover. Rome wasn’t built in a day.

Yet today’s market sells convenience. Leveraged ETFs – those using derivatives like swaps to outperform underlying benchmarks – seek one-day outperformance. From Direxion, a sponsor: “The use of derivatives such as futures contracts, forward contracts, options and swaps are subject to market risks that may cause their price to fluctuate over time. The funds do not attempt to, and should not be expected to, provide returns which are a multiple of the return of the Index for periods other than a single day.”

In yesterday’s big market move, over half of the 25 most actively traded securities were ETFs, most of them trading more than stocks like Pfizer and GE.  Several were 3x leveraged ETFs – that is, trades designed for a single day to beat a broad measure by 200%. If your stock was up twice as much as the market, there’s your probable answer.

ETF sponsors hold assets, and big brokers called Authorized Participants create ETF shares for trading or remove them from the market to match inflows and outflows and fluctuations in underlying stocks and indices. That’s a derivative. What’s traded isn’t the asset but a proxy. A key reason why stock pickers struggle is because long-term investments are inconvenient, and the many parties in the market chasing one-day moves or short-term divergences drown out fundamental differences in businesses.

There’s a triune reason for volatility that’s getting bigger, not smaller.  First, the whale in the market is money tracking benchmarks like the S&P 500. Clustered next around the benchmarks are options and futures and ETFs. The ETF SPY yesterday traded nearly ten times the dollar-amount ($26.3 billion) of the nearest active stock (VRX, $2.7 billion). And last, every ETF has what’s in effect counterparties –authorized participants maintaining coherence between ETFs and indexes (to us it’s sanctioned arbitrage since the APs know which direction money is moving and can go long or short advantageously, which is ethically questionable). So also do counterparties back the options, futures and swaps fueling leveraged ETFs and trading schemes and index-tracking by big funds.

Line these up.  Money is tracking indexes. Leveraged ETFs are trying to beat them. Counterparties are supplying options and futures to achieve those returns. Every day it changes and the movements are like a freight train on a twisting track, picking up speed, as each gets a day or two out of step with the others.

At what point does it rupture? Making homes too easy to buy through loose credit led to mushrooming mortgage-backed derivatives and later mass demise. Making money too easy for governments to get through central banks is behind the creaking mountain of global debt that the private sector long ago largely stopped buying (so it’s instead held by central banks that pledged the full faith and credit of the same citizens refusing to buy in private markets).

We’d benefit from old-fashioned inconvenience. Investments taking more than a day to produce a return. What’s valuable – time, money, risk, production, thrift, prudence, diligence – shouldn’t be marginalized into a derivatives trade.  Alas, we humans seem to recognize mistakes only in hindsight.

It Aint So

The equity market is like Mark Twain said. The trouble ain’t what people don’t know, it’s what they know that ain’t so.

Thus did Sam Clemens articulate the difference between the price of ignorance and the consequence of arrogance. I thought about this distinction a number of times after reading a late-April article on proposed SEC policies for pay-versus-performance.

Now, don’t worry. I’d rather have a hole drilled in a molar than ruminate on SEC regulatory recipes. We’re a data-analytics firm tracking equity-market behaviors. No, what happened was that stories ran in press outlets, a number of which said these rules affected 6,000 public companies.

I was curious where the number came from and asked reporters. They referred me to the SEC.  I reached out to the Division of Trading and Markets, which after a couple weeks sent me to Corporation Finance, who in turn routed me to the Division of Economic Research and Analysis.

It’s June. I’m still waiting for an answer. It’s curious that a body responsible for articulating compliance to a swath of businesses would have difficulty determining how it tabulated the swath.

Which leads me to something you may not know.  The German equity market corrected. On April 10 the DAX hit 12,374 and yesterday closed at 11,001, a 12% drop. Retrenchment of 10% is a correction.

Over the weekend, Deutsche Bank, one of the world’s largest derivatives counterparties, fired its co-CEOs.  HSBC, the erstwhile Hong Kong and Shanghai Banking Corp., another global derivatives backer, Monday declared a shakeup that axes 50,000 and rebrands its UK outlets.

Whenever there’s an earthquake now somewhere in the world, I’m wondering about consequences.  Invariably if a temblor rocks Indonesia there’s a volcano soon erupting on some island, a quake in another region. The planet is interconnected – and so are markets.

Your smart phone today knows you, and the providers of the apps you use can triangulate your contacts, your patterns, your calls, texts, schedule, your travel. It’s at once startlingly efficient and disturbing that Something knows Everything.

Do you get alerts on stocks? Maybe you have Google or Yahoo or somebody else ping you when shares move a certain amount or volume is up some percentage. If you surf the web, whatever you search from Cadillacs to underpants will be served up in advertisements. Yet stocks are still bland price and volume as though what’s behind both is homogenous and disconnected – the exact opposite of all else around us from nature to finance to web apps.

Today we launched the first-ever Market Structure Alerts for public companies that reveal not price and volume but what kind of behavior is driving them and whether it’s buying or selling and when it changes meaningfully for just you. Nobody has ever done it.

I see Bloomberg is offering companies technical analysis, something 30 years old. We agree that you should consider it a fundamental fact and duty of IR to know your equity market. What we know that ain’t so, however, is that technicals are not setting prices. What sets price is what money is doing, and it’s following models today.

Tuesday, we publicly unveiled Gamma™, our proprietary measure for knowing if your marketplace is well-informed, your investors engaged, not through what they say but how they spend money competing to buy shares.

The SEC is still trying to figure out how it counts companies. Here’s another fact: There are fewer than 3,850 public companies in the National Market System, with massive money concentration in them through a decade-long explosion of indexes and ETFs.

ETFs are derivatives, part of a big cast of them now. There’s more than $700 trillion of notional-value in currency and interest-rate swaps, which are impacted by asset-class volatility.

German bunds in the past two months have risen from 0.05% to 0.99%, a gain of 1,880%.  Institutions use big firms like Deutsche Bank and HSBC for risk-transfer – assigning the consequences of the unknown to someone else through derivatives.

When global risk-asset revaluation got underway in Sept 2014 – a process that continues now with intensifying risk – we theorized that one or more major global derivatives counterparties would run into financial trouble.

Everything is connected today.  Your shares are connected to derivatives and counterparties, indexes and ETFs, currencies, and all manner of options, futures and swaps. Quad-witching looms next week, with Russell rebalances.

We can do something for you that not even Goldman Sachs can manage:  We know what behavior sets your price, and how it connects to the big picture. What investor-relations professionals have to confront in this environment is both what you don’t know and what you know that ain’t so. We can help on both counts.

Challenge your assumptions – and all the tools that haven’t changed in 30 years. The informed IR professional is a powerful expert to whom management will turn.

Three Days

Some energy-sector clients lost 40% of market-capitalization in three days last October.

A year and a half cultivating share-appreciation and by Wednesday it’s gone.  How so?  To get there let’s take a trip.

I love driving the Llano Estacado, in Spanish “palisaded steppe” or the Staked Plains. From Boise City, OK and unfolding southward to Big Spring, TX lies an expanse fit for nomads, an unending escarpment of mottled browns and khakis flat as iron rail stretching symmetric from the horizon like a sea.

Spanish explorer Francisco Coronado wrote, “I reached some plains so vast that I did not find their limit anywhere I went.” Here Comanches were dominating horse warlords for hundreds of years. Later sprouted first the oil boom early last century around Amarillo and again in the 21st century a neoclassical renaissance punctuated by hydraulic fracturing in the Permian Basin.

The air sometimes is suffused with mercaptan, an additive redolent of rotten egg that signals the otherwise invisible presence of natural gas. But the pressure of a relentless regimen silts away on a foreshortened compass, time seeming to cease and with it the pounding of pulses and devices.  It’s refreshing somehow.

And on a map one can plot with precision a passage from Masterson to Lampasas off The Llano and know what conquering that route demands from clock and fuel gauge.

Energy stocks in August 2014 were humming along at highway speed and then shot off The Llano in October, disappearing into the haze.

(Side note: If you want to discuss this idea, we’re at the NIRI Tristate Chapter in Cincinnati Wed Mar 18 and I’m happy to entertain it!)

What happened?  There are fundamental influences on supply and demand, sure. But something else sets prices. I’ll illustrate with an example. Short interest is often measured in days-to-cover meaning shares borrowed and sold and not yet bought and returned are compared to average daily trading volume. So if you move a million shares daily and your short interest is eight million, days-to-cover is eight, which may be good or bad versus your average.

Twice in recent weeks we’ve seen big blocks in stocks, and short volumes then plunged by half in a day. Both stocks declined. Understand, short interest and short volume differ. The former is shares borrowed but not yet covered. It’s a limited measure of risk.  Carry a big portfolio at a brokerage with marginable accounts and you can appropriate half more against it under rules.

Using a proxy we developed, marketwide in the past five days short volume was about 44%, which at 6.7 billion total shares means borrowed shares were 2.95 billion. Statistically, nearly 30% of all stocks had short volume above 50%.  More shares were rented than owned in those on a given day. (more…)

The Fulcrum

The teeter-totter with the moving fulcrum never caught on.

The reason is it wasn’t a teeter-totter, which is simple addition and subtraction, but a calculus problem. The same mathematical hubris afflicted much talk surrounding US economic growth last autumn when it seemed things were booming even as oil prices were imploding.

“The problem is oil is oversupplied,” we were told, “so this is a boon for consumers.”

“What about the dollar?” we asked.

Oil prices are a three-dimensional calculus problem. Picture a teeter-totter.  On the left is supply, on the right is demand.  In the middle is the fulcrum: money. Here, the dollar.

In January 15, 2009 when the Fed began to buy mortgage-backed assets, the price of oil was near $36.  Supply and demand were relatively static but the sense was that economies globally were contracting. On Jan 8, 2010, one year later, oil was about $83. Five years removed we’re talking about the slow recovery. So how did oil double?

The explanation is the fulcrum between supply and demand. Dollars plunged in value relative to global currencies when the Fed began spending them on mortgages.  Picture a teeter-totter again. If I’m much heavier than you, and the fulcrum shifts nearer me, you can balance me on the teeter-totter.  Oil is priced in dollars. Smaller dollars, larger oil price, or vice-versa.

As the Fed shifted the fulcrum, the lever it created forced all forms of money to buy things possessing risk, like stocks, real estate, art, commodities, goods and services.

As we know through Herb Stein, if something cannot last forever it will stop. On August 14, 2014 the Fed’s balance sheet had $4.463 trillion of assets, not counting offsetting bank reserves. On Aug 21, 2014, it was $4.459 trillion, the first slippage in perhaps years.

Instantly, the dollar began rising (and oil started falling). At Jan 22, 2015, the Fed’s balance sheet is $4.55 trillion, bigger again as the Fed tries to slow dollar-appreciation. But the boulder already rolled off the ridge. The dollar is up 22% from its May 2014 low, in effect a 35% rise in the cost of capital – a de facto interest-rate increase. (more…)

Legging It

What are the implications?

Posing that question is a great conversation-starter unless you’ve just asked your teenage son about a substance you’ve found in his room that is not (currently in your state) sanctioned by the government, or if your party is on the long end of an election night.

What if stock orders are implied?  The Fear Gauge, the VIX, a derivatives contract from the Chicago Board Options Exchange, gives traders and risk managers the implications of volatility in the S&P 500.  But that’s not what we mean. Let’s keep going.

The stock market has become so complicated that few can describe how it works now. Many investor-relations professionals and public-company executives say “we just ignore the stock,” implying it’s cooler to act like you’re above it all (even though knowing nothing about any other market you’re responsible for would get you canned).

Chuckles aside, the implication is that it needs simplification. Public glare prompted the NYSE to pronounce earlier this year that it would prune its order types (yet it just launched a new one designed to help high-speed traders sell shares at the NYSE).

Aside: I’m speaking today at the NIRI Kansas City chapter about how the market became something nobody recognizes.

If you buy something at Amazon, the order type is the form you complete with your payment instructions and address that causes what you bought to show up on your doorstep.  This works well. (more…)


It’s not what you think.  Heard that phrase before?

Last Wednesday, Oct 15, apparently everybody trading equities believed the world was dissolving in an apocalyptic stew of Ebola, European recession, unused petroleum, Chinese debt and Mideast terror. The DJIA at one point dropped 460 points.

Son of a gun. By Friday, October 17 we were back to milk and honey and Captain Crunch! The DJIA rose 263 points. Human nature is fickle. But this juxtaposition stretches credulity. It’s also a lesson on market structure.

In 2013, according to the Investment Company Institute, net US inflows to mutual funds were $152 billion, of which $52 billion went to target-date hybrid funds (mixes of bonds and equities based on one’s age), and about $53 billion to index funds, 82% of which track major market measures like the S&P 500. Exchange-traded funds garnered another $180 billion, mostly equity instruments that track funds tied to indices.

If two-thirds of the net new cash followed asset-allocation vehicles and a greater sum still sought ETFs, which post daily market positions, the likelihood that most of your price-movement reflects fundamentals is low unless you have an activist (event-driven money can catalyze bipolarity in market behavior – higher highs and lower lows).

There’s an animation sequence I’ve seen that starts with what appears to be mountains or desert from great height. Then our vantage point pans back and we see with surprise that it’s something else entirely: the brown pupil of a person’s eye.  We sweep back and the person is standing on a shoreline. Then back we scan across forests, mountains, rivers, countries and then continents until we’re in space seeing below us a lovely cobalt sphere, and we pan further, and it’s the blue pupil of a giant being. (more…)