It began in mid-February this year as markets woke with a start to an imminent burst of US inflation. That awakening triggered a back-up in bond yields and the rest follows automatically. Equities were forced to reprice on factors that weighed against growth stocks with long-duration returns in favour of more reliable short-term duration value-stock returns.
We saw a reprieve in this trade in April as the bond back-up eased:
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But last night Granny Yellen let the cat out of the bag:
“It may be that interest rates will have to rise somewhat to make sure that our economy doesn’t overheat. Even though the additional spending is relatively small relative to the size of the economy, it could cause some very modest increases in interest rates.”
This would, of course, be a great thing for capitalism and inequality. But, for now, markets are still not priced for it, especially growth stocks, which have retraced large parts of their previous sell-off. In truth, however, growth has seriously underperformed the SPX since the Feburary peak:
Getting worse last night:
Some elements of growth/tech are doing better. Especially the titanic FAANGS which are, actually, more reminiscent of quality stocks than growth. But the underbelly of the IXIC is getting caned. The lower down the pecking order of reliable earnings you are, the worst it gets:
There is more US inflation ahead as short term base effects and supply-side shortages deliver. The robots are poised to sell as well, via the robot whisperers at Nomura:
Quick thoughts on Rate- and Equity- Vol as we see some early “risk-off” flows on relatively good volume in futures…
- Realized volatility in US Rates has been clobbered since early March, coinciding of course with UST 10Y nominal yields listlessly range-trading 1.50-1.75ish
- However, Nomura’s Jack Hammond notes that while 10 day realized in 10Y swaps fell by ~40% over April, 1m10y implied has only fallen by ~10% (i.e. inflation overshoot fears keeping iVol “stickier,” as tail-hedgers continue to buy Payers like 1y10y 1×2 spreads), which will likely further incentivize both opportunistic- and systematic- Vol SELLERS as it screens “rich”….
- Yet Jack believes that the next move from here is likely to be more of a “grinding” -type:
- “Breakevens have largely done the work and unless we really are heading into the 1970s, policy induced higher rates is always a slow process (tapering slowly, 50bps hikes became 25bps hikes, every meeting hikes became every other meeting, etc). Long tails which are impacted by the expected long term neutral rate and inflation environment realize this faster than shorter tails. We are seeing this as 30y skew was first to react and the toothpaste squeeze is occurring now as the move is coming in the curve at the moment.”
- And with systematics- and opportunistic- Vol sellers increasingly selling Payer skew, (delta-hedged) Dealers will now likely be receiving the market more and more into sell-offs, which will further act to help dampen volatility / risk of gap moves higher in Yields—which is the opposite of the early 2021 trade, where Dealers were paying / selling as USTs sold off and Yields moved higher
- Turning to US Eq Vol dynamics: nothing exceedingly bulky or “whale-like” by itself…however, there too has no doubt been a pick-up with broad Vol / Gamma selling from clients in recent weeks
- This has show via standard overwriter flows in singles and index, but also to the systematic strangle-selling mentioned in the press last week (which looks like the odd-lottish flows in ratios that trade ~3-4x’s a week, while there too is a separate daily overwriter program in one month straddles for example)…all of which has contributed to what has been a very “long gamma” dynamic for Dealers—and thus the “stuck” S&P for about three weeks, pinging around the gravity of the big strikes at 4150-4200
- The %ile rank of the overall $Gamma magnitude across US Equities index has come-off after recent expirations (SPX / SPY consolidated now a middling 56.6%ile $Gamma / IWM 35.9%ile; EEM 37.4%ile); however, Nasdaq / QQQ’s continue to be the epicenter for how broad index movement could get weird, with -$435.8mm $Gamma which is extremely negative at just 3.8%ile
- And with this “extreme” negative $Gamma in QQQ, we see Dealers increasingly moving into “short Gamma vs spot” territory as well (Gamma “neutral line” at 339.36 vs spot 333.55); similarly, we currently see Dealers “short Gamma vs spot” too in both IWM (226.19 “neutral line” vs 224.79 spot) and EEM (54.29 “neutral line” vs spot 53.59)
- Notably, following what had been a strong recovery in April for the Tech sector and “Secular Growth” (aided by the stabilization in USTs and relative “bull-flattening” off the extremes of the March Rates selloff / “bear-steepening”), our Nomura Sector Sentiment analysis shows that WoW, we have seen Tech sector sentiment collapse (again)–with an 85.1%ile score a week ago, but today printing down at 53.9%
- As usual, it looks like the connection btwn legacy “duration proxy” Tech sector / “Secular Growth” is the risk into the next two months of “peak” US economic data base-effect, with this week’s heavy US data slate culminating in the CRITICAL Friday NFP, which is expected to be a WHOPPING +++ print and is set to dictate the timing of Fed “tapering” socialization
- Nonetheless in more “diverse” SPX / SPY as chief “bellwether” for risk-assets, Dealers remain in an insulating “long Gamma vs spot” position locally, sofar as we stay above the 4074.19 “neutral line”
- Strikes that matter: 4100 ($2.285B $Gamma), 4200 ($4.476B), 4250 ($4.263B), 4300 ($2.368B)
- Key here from a “macro catalyst” perspective may then be the maintenance of “loose” US financial conditions into market sensitivities around the eventual “taper,” with GS Financial Conditions notably printing all-time”easy” levels last week as stocks printed all-time highs
- With US Rates remaining their aforementioned current state of “chillaxation” (especially with “real yields” remaining so deeply negative), focus will likely increasingly pivot to the US Dollar as a potential “fly in the ointment,” where “higher Dollar” could act to be a financial conditions NEGATIVE…and notably, we see DXY squeezing meaningfully higher.
Translated: the robots are poised to sell growth but are still comfortable with value.
US inflation will come down again through H2. But so will unemployment, fast, so the more serious concern around wage push inflation will emerge as the labour market fully recovers and the fiscal tailwind stays strong.
So we can expect these ebbs and flows of growth/value factors to continue but within a declining trend for the former.
In short, Tech Wreck 2.0 ain’t over.