Cem Karsan On Volatility & A.I. Boom

Summary

Jeen Carson provides a monthly market update, focusing on three main points: his view that the 10-year Treasury yield will reach 5% by year-end, indicating his belief in an inflationary period ahead; the potential for market weakness in the Feb-March options expiration window, though he notes the difficulty in timing market moves; and his observation of rising volatility, benefiting certain stocks. Though seeing macroeconomic risks, he believes policymakers will likely favor stimulus over fighting inflation in an election year, risking loss of control of interest rates.

Takeaways

• 😀 It's never straightforward to predict market moves; must consider reflexivity of markets
• 😮 Need market volatility (V) to rise to enable market blow-off tops
• 😑 Windows of expected market weakness don't always occur as predicted
• 🤔 Long-dated calls can benefit from market rallies and offer downside protection
• 😥 Markets tend to squeeze shorts before major selloffs
• 😤 March Opex carries risks but upside if market strengthens past one week
• 👀 Market dispersion emerging, with tech weak recently while small caps strengthen
• 🤑 Nvidia earnings could spark short squeeze across risk assets if strong
• 🔮 Secular view unchanged - 5% 10-year yields likely by year-end
• 😰 Risk of 1970s-style stagflation if Fed doesn't get inflation under control

Q & A

What timeframe does Jen set for when we may start to see things falling apart in the markets?

Jen says we have about a week, a little bit less even, to start to see signs of things falling apart in the markets.

What does Jen say is the best way to trade this volatile market environment?

Jen recommends trading options rather than just being outright long or short the market. Specifically he suggests being long dated calls and shorting stock into rallies for the best risk/reward.

What happens if the markets don't decline around the Feb-March OpEx timeframe?

Jen says if we don't get a meaningful decline around the Feb-March OpEx, the probability increases that markets will squeeze significantly higher as shorts are forced to cover.

Why does Jen think the yield curve is steepening?

Jen believes the yield curve is steepening because if the Fed favors GDP growth over fighting inflation in an election year, long term inflation expectations will rise, causing the backend of the curve to sell off.

What is behind the structural inflation Jen sees?

Jen sees inflation being driven by de-globalization, populism, labor rights movements and other structural factors - not just cyclical economic factors.

What is the role of implied volatility in the potential for a market blowoff top?

Jen says you need to see implied volatility rise to get the type of blowoff top with a painful short squeeze to unravel the huge net short positioning.

What is the dispersion trade Jen mentions regarding the Russell outperformance?

As NASDAQ dealers short gamma must sell stock, this forces buying in other indices like the Russell to rebalance exposures.

What is behind the fat left tail risk Jen describes?

Around quarterly options expirations, due to the amount of open interest, if markets decline sharply, the resulting gamma from unwinding positions exaggerates the move down.

Why can't you just be outright short this market?

Jen says being outright short is dangerous because in blowoff tops, the market tends to squeeze shorts by moving faster upwards until exhaustion finally hits.

What is the trade Jen specifically recommends here?

Jen recommends being long dated calls to benefit from an upside squeeze while also shorting stock against those calls as a hedge to profit if we do get a meaningful decline.