Troubling Signs

Ahoy!

As you read, we are stopping in Charlotte en route to a 2pm arrival in Sint Maarten in the Caribbean.

Illustration 91269233 © Dharshani Gk Arts | Dreamstime.com

We saw the inflation print at 8.5%, plunging consumer confidence, rising credit risk, the supply-chain morass, and said, “Let’s flee to the sea.”

Okay, not really. We reset this sailing trip that vanished into the Pandemic.  Weirdly, we need no Covid test to see the sand and sea but for us citizens of the Land of the Free, we can’t get back in our OWN COUNTRY without one.

After being shot, boosted and afflicted with Covid in roughly that order.

We the People need to put the little despots in their places, power-seekers lording it over others without respect to math, science or common sense.  Untenable.  Unacceptable.

Back to market structure.  And monetary policy. 

Options expire this Good Friday short week, today and tomorrow. Trading is a tug of war between parties to expiring options and futures on Treasuries, currencies, interest rates, commodities, equities and bonds, and the counterparties with risk and exposure on the other side.

Don’t expect the market to be a barometer on investor-sentiment right now.

And new options trade Monday. Then counterparties square books Tuesday. Volatility derivatives expire Wednesday.

What will be apparent is if risk-taking is resuming.  I think Mon-Tue next week (Apr 18-19) are key.  Look, you can’t peg the day. Could be before, could be after.  But the market will either turn because investors and traders reset swaths of options and futures or we could get clocked.

No middle ground?

Broad Sentiment signals risk.  Might be a couple months away, or not.  Data going back the past decade that we track show that Broad Sentiment with a 90-day rolling read near 5.0 precedes a steep decline.

That’s about where it is.  History warns us.

What about the risk of recession?  Well, of course there’s risk.  Central banks globally exploded the supply of currency and shut down output. Nothing could be more damaging to economies.  Trying to remedy that catastrophe will take a toll.

And the Federal Reserve knows it and knows it must get interest rates back to a level that leaves room to chop them to zero to try to forestall an economic collapse. 

The Fed is motivated to stock up some ammo, not to “normalize rates.” The quickest way to do that is to lift overnight rates and start selling off bonds. If demand for bonds falls, interest rates rise.

That simple. And the Fed is wholly willing to put everything and everyone in jeopardy in order to give itself policy tools. 

I’m not opposed to raising rates. I’m opposed to low rates that devalue savings and purchasing power and encourage debt and consumption.

Impact on equities?  I think we’re seeing it already.  Passive Investment marketwide has fallen from 20.4% of trading volume over the trailing 200 days, to 18.8% now.

Doesn’t seem like much. But a sustained recession in demand from indexes, ETFs and quants will reduce stock prices.  Derivatives demand is down too, from 18% to 17.2%.

Mathematically, that’s an 8% long-term decline in Passive Investment, 4% drop in derivatives demand. Is a 12% reduction in real and implied demand meaningful?  

Absolutely.

So, it’s a matter of the degree of effect, and if or when that trend reverses.  A trend-change across the whole market is unlikely here at April options-expirations. 

How about earnings season?  Only if it’s a barnburner, which is improbable.

I think the best chance is June options-expirations, the next time big money can make meaningful changes to asset-allocations.  In between are Russell rebalances in May.

I’m neither bull nor bear. We’re data analysts. We track the trends.  There are troubling signs here.  Yes, they could dissolve again under the inexorable repetition of There Is No Alternative.

But if not, there’s a rough ride ahead.  So.  You will find us on a boat.  See you Apr 27.