Macro and Flows Update: July 2023 - e19
Summary
TLDRThe video discusses market dynamics, highlighting the significant role of structured products in driving options supply and their impact on market volatility. It emphasizes the importance of understanding macro flows and liquidity models, and how they can influence market behavior. The speaker advises being adaptive and cautious, noting that while current market conditions may be favorable, they could change rapidly. The video also touches on the potential risks and opportunities in the market, urging investors to stay vigilant and prepared for market shifts.
Takeaways
- 📈 The B Supply has been well-maintained despite market declines, indicating a resilient market.
- 🔄 There was an expectation of increased market volatility and potential liquidations following June Opex, but this did not materialize as expected.
- 🚀 The market's reaction to the first week after June Opex led to a more constructive stance on markets, reversing previous short positions.
- 🎇 Holiday-induced buybacks and compressed market timing contributed to increased market support during the mentioned period.
- 💹 The increase in collateral due to a 6.5% market rise significantly boosts market liquidity, especially at the end and beginning of months.
- 📊 The short interest squeeze and positioning in tech names made it an unfavorable time to short the market, leading to a constructive stance.
- 🌪️ Market upswings and increased volatility are being observed, but without volume pinning, the sustainability of these trends is in question.
- 📉 The macro liquidity picture is concerning, with the Fed's actions and Treasury's shortened duration issuance impacting the need to refill the TGA.
- 🔄 There's a deviation in the historically strong correlation between liquidity flows and jobs, indicating a change in market dynamics.
- 📈 The market's upward movement and bullish sentiment indicate a potential topping process, but these signs are not fully conclusive.
- 🔄 The current market scenario is different from the 1970s due to the massive scale of options and derivatives issuance, which has a significant impact on V Supply.
Q & A
What was the state of the B Supply in June according to the video?
-The B Supply in June was very well supplied despite the market decline of around 100 points, which was not enough to cause the liquidation that was expected.
Why was there a shift to being more constructive on the markets after the first week of June?
-The shift to being more constructive on the markets was due to a combination of factors including holidays leading to significant amount of buyback and supportive flows underneath the market, as well as an increase in market liquidity due to the rise in collateral from the $40 trillion of US equities.
What does the term 'vona charm' refer to in the context of the video?
-The term 'vona charm' is not explicitly defined in the video, but it seems to refer to certain market flows or dynamics that the speakers were monitoring, likely related to end of month/beginning of month financial activities.
What is the significance of the short squeeze mentioned in the video?
-The short squeeze is significant because it indicates a high level of short interest in certain stocks, particularly tech names or high flyers. This can lead to increased buying pressure as short sellers are forced to buy back shares to cover their positions, potentially leading to a further rise in the stock prices.
What does the video suggest about market behavior around Opex?
-The video suggests that there are typically strong market flows leading up to Opex, particularly in the week before and during the Monday and Wednesday of Opex. However, these flows tend to slow down after this period, shifting more towards charm flows.
What is the importance of the 20-day SMA and two standard deviation levels mentioned in the video?
-The 20-day SMA (Simple Moving Average) and its two standard deviation levels are important technical indicators used to assess market momentum and potential overbought or oversold conditions. The video suggests using these levels to consider taking positions or making adjustments in market strategy.
How does the macro liquidity picture affect the market according to the video?
-The macro liquidity picture is very important as it reflects natural flows coming in and out of the market. The video suggests that current liquidity models indicate a deviation from the strong correlation to liquidity flows that has been observed over the past seven years, which could signal a change in market dynamics.
What is the role of structured products in the current market environment?
-Structured products play a significant role in the current market environment by providing an alternative to traditional stock and bond investments. They are tied to derivatives and can offer higher yields based on underlying interest rates, leading to increased issuance and impacting market behavior, particularly in pinning the S&P 500.
What does the video suggest about the potential for a market top?
-The video suggests that there are signs of a potential market top forming, such as increased market volatility, bullish sentiment, and positioning changes. However, it also notes that these tops can be difficult to time and capture, as markets can stay irrational longer than expected.
What is the significance of the historical dispersion and correlation levels mentioned in the video?
-The historical dispersion and correlation levels are significant as they indicate a deviation from the norm. The video mentions that the correlation of underlying constituents of the S&P was at a historically low level, which is unusual and could be related to the structured products and options market dynamics.
What does the video recommend in terms of investment strategy?
-The video recommends being flexible and adaptive like water, going with the flows in constructive windows and taking appropriate positions when necessary. It also emphasizes the importance of understanding the structural realities of the market and having a multi-year outlook, despite potential short-term market squeezes.
Outlines
📈 Market Analysis and Supply Update
This paragraph discusses the state of the market in July, focusing on the supply situation. Despite expectations of market upticks and increased volatility, the VA Supply remained stable. The speaker mentions that the decline in the market did not lead to the anticipated liquidation. Various factors are considered, including holidays and their impact on market flows, the significant buyback of stocks, and the increase in market collateral due to a 6.5% monthly increase. The speaker advises on the importance of timing and positioning in the market, especially considering the end of month and beginning of month flows.
🌪️ Macro Liquidity and Market Dynamics
The speaker delves into the macro liquidity picture, highlighting the challenges posed by the Federal Reserve's actions and the Treasury's shortened duration of issuance. The discussion touches on liquidity models and their significance in understanding market flows. It is noted that there is a deviation from the strong correlation to liquidity flows, which has been present over the past seven years. The speaker also addresses the change in narrative and sentiment in the market, with banks increasing expectations and a more bullish outlook emerging. The paragraph concludes with a warning about the difficulty of capturing market upside and downside, especially towards the end of a cycle.
🔄 The Impact of Structured Products on Market Supply
This section focuses on the significant role of structured products in the market, particularly in relation to the supply of options and derivatives. The speaker explains how the issuance of structured products drives V Supply, as they involve writing options onto banks, which in turn hedge their positions in the options market. The result is a large amount of gamma and vega, which pins the S&P 500. The speaker discusses the historical dispersion and low correlation observed in the market, attributing these phenomena to the influence of structured products. The paragraph emphasizes the need for a change in structured product issuance for a shift in market dynamics to occur.
🚀 Market Outlook and Investment Strategy
The speaker concludes the video with a multi-year outlook on macro flows and equity markets, noting that while the situation appears unfavorable, opportunities for market squeezes can still arise over shorter periods. The importance of adaptability and timing in investment strategies is stressed, with the advice to be like water, flowing with market conditions. The speaker also cautions that the information provided should not be taken as investment advice and that investors should consult with their advisors to determine the suitability of any investment strategy based on their personal circumstances.
Mindmap
Keywords
💡B Supply
💡Opex
💡unpinning
💡V Supply
💡liquidity
💡Structural Flows
💡V compression
💡narrative change
💡short interest
💡TGA
Highlights
The B Supply has been very well supplied despite market downturns.
There was a vocal stance on the potential for market liquidation due to a decline of 100 points, but it did not materialize.
The market's response after the first week of June Opex indicated a shift towards reversing shorts and being more constructive on markets.
Holidays such as Juneteenth and July 4th contributed to a significant amount of buyback and supportive flows underneath the market.
The increase in market collateral by 6%, resulting in a $2.4 trillion dollar increase, dramatically increased market liquidity.
The narrative changed as positioning and sentiment started to turn more bullish, with banks increasing expectations.
The correlation between jobs and liquidity flows has been strong for the last seven years, but recent deviations suggest a change in the market dynamics.
The Federal Reserve and the Treasury shortened the duration of issuance to slow down the refilling of the Treasury General Account (TGA), affecting market liquidity.
The creation of derivatives and structured products has changed the dynamics of money flow between the stock and bond markets.
Structured products are driving V Supply, as they involve writing options onto banks, which in turn hedge their positions in the options markets.
The dispersion profit in 2017 was the highest in history, indicating a significant impact from structured products on the market.
The correlation of underlying constituents of the S&P 500 was at a historical low, highlighting the outlier status of the market conditions.
The market's structure has changed, with long call purchasing from the street and dealers experiencing shortfalls, leading to a massive unwind and push.
For V Supply to unpin, structured products need to roll off and other buyers need to come in, which is challenging due to the stickiness of the positions.
The potential for a significant market move to the upside is needed to drive people into more longfall strategies and create potential energy for a change.
The macro liquidity picture is very concerning, with implications for equity markets and investor strategies.
The video provides insights into market dynamics and investor strategies, emphasizing the importance of adaptability and understanding structural flows.
Transcripts
hello and welcome back to another macro
and flows update video
here we are in July uh and as we talked
about last month um the B Supply has
been very very well
supplied uh you know despite what we
were hoping to see is some unpinning
with some marketup volup like we had had
seen there going into uh the final
quarterly Opex in June uh as the market
came down we were very very vocal kind
of publicly about how that the VA Supply
despite the kind of 100 Point decline
that we saw over the course of week was
not enough uh unpinned to really have us
see kind of the liquidation that we we
were hoping uh might might be you know
the markets might be ready for um not
surprisingly uh the other reason that it
made sense to kind of uh reverse shorts
and and be more constructive on markets
after that first week after June
Opex was a couple things one we had uh
essentially three days within a a a
four-week period um of of holidays um
that's a significant amount of bana and
charm buyback uh supportive flows
underneath the market with v compressed
that we knew were coming both from
juneth um as well as the July 4th
holiday falling on a Tuesday um which
meant Monday was essentially off as well
that was a major acceleration important
in terms of timing as well because uh
right behind that after a six and a
half% month right we were going into end
of month beginning of month flows period
which we know historically especially in
upm months represents a major buyback of
uh of stock and reinvestment um based on
higher collateral what do we mean there
uh you know $40 trillion doar think
about that $40 trillion of us equities
alone never mind all the other assets
that are tied to it those $40 trillion
if they go up by 6% right that's a
$2.4 trillion doll increase in
collateral in the market and that
increases the amount of liquidity in the
market dramatically um and a lot of that
goes back to work at the end of the
month beginning of the month so up
months are very positive into end of
month beginning of month historically um
there are some um other uh
considerations obviously in terms of
risk parity other rebalances that other
people were focused on that was really
our primary focus there as well so
falling after that though you know
amidst those two holidays um and and the
increase liquidity given the amount of B
Supply pretty clear that that it was not
the time to kind of uh continue to short
after after a nice two and a half
percent gain there so that was um that
was the real uh the turn um not
surprising to hear after that as well
what do you get into that bonana charm
week we talk so much about that second
week before Opex where flows are the
strongest really into the Monday
Wednesday of Opex then they kind of slow
down until uh you know turn into more
charm flows but given the squeeze on
short interest that we've been seeing
uh you know the uh the issues we've been
you know seeing in terms of positioning
and particularly in the tech names the
amount of uh short ball that we're
seeing in in some of those highflyer um
names it was pretty clear that this was
not the time to kind of uh get out in
front of that so we've been constructive
uh out in front of those vona charm
flows those end of month beginning of
month flows and and that vona charm week
um but here we go again uh market up
ball up the last several days um you
know we're doing this video a little bit
earlier than usual so it's the the
Friday before Opex I usually we do it
about a week
later um but this is uh you know we
would expect that these flows continue
to be very supportive at least until
Wednesday morning um you know with the
with vix um vix bation coming up on that
day um and then uh you know you have to
start being a little bit more cautious
um but again uh 19th of jun July we
called this out as a potential week spot
uh 19th into the 21st uh would be uh
would be the windows to be particularly
um kind of start to to be a little less
aggressive on the long side and start
looking to potentially take shorts
especially if we continue to see market
up volup as we're starting to see and
the market continue to push that two
standard deviation up level of the
20-day SMA so those are very important
levels and things to think about in
terms of uh momentum and push um again
though if we can't see volum pinning um
these things can go longer than you
expect the markets can stay irrational
longer than we you know people can stay
insolvent you have to be like water as
we always preach you know you have to be
very very uh willing to go with the
flows in the windows where it's
constructive and then take your shots on
the other side when appropriate again
the macro liquidity picture though to
kind of circle back is very very ugly
they fed uh purposely knowing that the
TGA um was going to be have to be
refilled um shortened the duration and
not just the the FED but the treasury
shortened the duration of issuance they
drop the amount of issuance to slow it
down that doesn't stop the amount that
needs to be refilled in the TGA it just
extends it and slows it down liquidity
if you look at liquidity models which
are you know some people argue or
foolish um we very much believe that
those things matter um it it is a strong
representation of natural flows coming
in and the out of the market and it's
part of the equation not all the
equation but you are starting to see
jobs
a real deviation of what has otherwise
been a very very strong 0 N4 correlation
in the last uh seven years or so um so
very very strong correlation to
liquidity flows and those are turning
down and I've been aggressively turning
down there is a bit of a deviation those
happen for a while um they have they're
generally due to other structural flows
like we've talked about right uh that
that particularly um here with uh with
Opex um flows that we saw June into July
and again here going to July Opex and
the squeeze of short interest which has
been high until more recently but we are
now importantly to say seeing a
narrative change it is very clear across
the board we're seeing positioning
change sentiment is turning uh banks are
you know ratcheting up expectations as
they always do at the end of these
things um you seeing across the board
more bullishness um you know price uh
drives narrative uh it's not really the
other way around so this is what we've
been looking for we've been looking for
market up vop so we're starting to see
the clues and the things we have been
waiting for really since June and these
are good signs uh that that a a more
good signs depending on who you're
asking but you know good signs that a
more topping process is actually uh
coming these things though like I said
could stretch uh historically speaking
uh tops are formed um with with high
volatility with some of the biggest
moves coming at the end um and so it
makes it you know on purpose actually
reflexively U difficult to short it
makes it uh you know when the highest
gains are at the very end of a cycle um
before big uh structural decline those
are things that uh make it like I said
very hard to capture the upside for
people and also hard to capture the
downside um into that last part uh the
NASDAQ in 1999 in
2000 almost doubled right um in about
nine months so a significant sign ific
move I mean I think about a double
before declining more than 90% that's a
great example similar things in ' 07 um
you can talk again about uh you know the
two months uh after we learned about
covid in late December before um we saw
a final decline from Co of 30% in a
month these are the way things happen uh
V compression needs to bottom um and and
those are the things that we again we've
been looking for of all compression
floor so strike fall going up more uh
potential energy to the drop as the
market goes higher um and importantly
less shorts so the squeezing of shorts
the uh the changing of the narrative all
of those things are things that we have
been now beginning to see but are not
done yet we believe uh we are getting
close we will take a shot here again in
July as we mentioned but something to be
aware of one new thing that we haven't
talked enough about is V Supply and I
think there's a need to talk about this
in in great detail uh so that investors
um as well as potential investors really
understand um this is different than the
last inflationary period in the 70s in
some ways one of the most important ways
is in the pure size and scale and
issuance of options and
derivatives derivatives did not exist
largely in the 1970s put options alone
uh did not uh get list or traded until
the late 70s uh and definitely weren't
actively used till much later so there's
an important unique uh outco out you
know outcome here from derivatives um
historically money goes from the stock
market to the bond market when interest
rates go up so negative liquidity is not
just the problem it's a problem that
higher interest rates provide a reverse
Tina effect to flow into bonds and away
from
stocks however now with the is the
creation of derivatives and the and the
uh issuance of massive amounts of
Structured Products we are seeing
massive increases in structured product
issuance why because people are looking
at uh the realities of five% plus
underlying interest rates and the
ability to write Structured Products
above them so there's the ability for
example as a as a general example to go
out and write puts and calls a year out
20% out of the money and yield not just
the 5% but again yield step back and
then add another three and a half yield
something around 8 and a
half% um as long as the market doesn't
decline more than 20% as long as it
doesn't uh rally more than 20% you sit
in in a position to make eight and a
half percent a year and then after that
you you know going one to one short the
market above one to one La the market
above gives you a major cushion and in a
non-correlated way to be able to kind of
compound at eight and a half percent
sounds very appealing to people again an
alternative a non-correlated alternative
to stocks that people are doing instead
of just buying bonds
that movement into Structured Products
is having a significant impact we've
known ball suppli is very very strong
but we've been trying to uh get under
the hood over the last three months
really of what's driving the stickiness
to it and our our research shows that
it's primarily Structured Products
structured product issuance drives V
Supply because most of its writing
options onto Banks um which then have to
lay off that Vault Supply onto the
options markets on top of that they have
to hedge their long ball positions and
long game of positions so market makers
Banks dealers broadly are Laden with
massive amounts of gamma and V and this
is pinning the S&P 500 where all these
Structured Products are primarily um
based um we know this we can see the
effects of this not just in the pinning
of Vault broadly but in the massive
historical dispersion we are seeing 2017
was the highest um the highest level of
dis ersion profit um in history uh by
many measures so realiz ball itself was
at 30% lower than any other time in
history in 125 years of History we've
talked about that um but correlation was
also at 25% lower than any other time in
history the correlation of underlying
constituents of the S&P that was a
complete outlier until this year we are
now seeing something very similar
dispersion so the single list movement
uh the volatility of of those options uh
Rel those underlyings relative the
volatility of the index is at again a
historic breaking point and that is
driving immense profits um for people
who are playing that trade but again why
is that because the VA and the structure
products and everything tied to the S&P
is pinned that V Supply is incredibly
pinned while we still having major macro
um you know issues uh major uh major
lepto kurtic kind of underlying
liquidity flows and that's really
driving what we're see historic kind of
dispersion historic rotation that we've
seen in particularly into the short B
names uh like Nvidia and the these AI
names where there's a lot of long call
purchasing from the street and dealers
are shortfall so you have this massive
unwind and push that's happening as the
index is more pinned and uh these other
names are getting pushed now that can't
last forever but it can last much longer
than people expect because it's a
structured flow position it is these are
not uh the the supply of all is not weak
hands I would say entities that are are
selling this uh and that are very
concentrated in the market and that can
get blown out and have to cover or
dealers that will have to themselves
sell into it um who is short that ball
uh people who are taking on structured
product um issuance and that ultimately
is pretty sticky um what you need to see
is those structur products to kind of
roll off other buyers of all come in and
relieve that V Supply in order for this
to to uh you know for a a unpinning to
happen and that's difficult that's
difficult i' I've mentioned this ball
Supply in S&P as really the the one
thing that is kind of the uh that needs
that's going to be the hardest and the
last thing to change it usually is think
of it as the the the Dutch boy with his
thumb in the Dyke there's potential
energy building behind that damn lots of
liquidity um you know uh uh coming out
and creating uh more dangerous
situations The Narrative changing the
short long long to short interest the
short to Long interest turning all of
those things um are things we need to
see the problem is on pinning V and and
one of the best ways for that to happen
is to for big enough moves to the upside
upside to start to happen so they become
natural buyers of all as the market
slides to continually uh unsustainably
low implied VA and that's why the market
up volup piece is important one or two
days is not enough you need to see weeks
profitability that drives people into
more longfall strategies less shortfall
and also like I said creates the
potential energy um and narrative change
that that we you know and positioning
change from a long short side from a
Delta one side that can potentially
create a bigger ball and pinning so
that's what we're looking for hopefully
this was helpful again the macro flows
the structural realities of of where we
sit uh this is a multi-year Outlook um
very very bad for liquidity bad for
Equity markets but does not mean over
the course of months uh quarters that we
can't see continued squeezes uh you have
to be liquid you have to be like water
uh wishing you all the best here in July
uh and look forward to another one here
in August take
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