Macro and Flows Update: September 2022 - e09

Kai Media
10 Apr 202412:07

Summary

TLDRThe video discusses ongoing macroeconomic trends, emphasizing the challenge faced by the Federal Reserve due to accelerating core inflation. It suggests that the Fed may need to increase rates significantly, potentially nearing 7%, leading to bearish market conditions. The script also highlights the impact of reduced asset demand due to higher costs of money, margin compression, and the shift of funds to bonds. It advises viewers to continue selling rallies and to be cautious of market positioning and macro flows, while also noting potential opportunities in the medium to long term, especially as the market navigates through a period of fiscal and political changes.

Takeaways

  • 📈 The CPI print indicates ongoing strong and accelerating core inflation, complicating the Federal Reserve's policy decisions.
  • 💹 As interest rates rise, expect multiple contractions, reduced demand for assets, and margin compression due to the reverse Tina effect.
  • 💲 The shift of funds to bonds, increased volatility, and risk premiums are signs of a changing economic landscape without a Fed put option.
  • 📊 Conservative estimates suggest that long-term rates may reach 4.3-4%, but the actual Fed target could be closer to 7%, indicating a more aggressive stance.
  • 🔻 The advice is to continue selling rallies as the structural negative effects and macro flows persist, despite short-term countertrend rallies.
  • 🌐 Strength in the US dollar is expected to continue, with margin compression from international earnings filtering through the upcoming earnings season.
  • 📅 The Fed's tapering has reduced demand for assets by billions daily, which is a significant figure to consider for market dynamics.
  • 🚫 The buyback blackout period and the five-week expiration cycle could lead to reduced market support and increased fragility in the short term.
  • 📉 The Fed meeting approaching is unlikely to show a pivot towards ease; a hawkish stance is anticipated, emphasizing the importance of not fighting against the central bank's direction.
  • 🎯 The bull case lies in short interest and record high V (volatility) supplies, which could lead to short-term pressure but also opportunities for market corrections.

Q & A

  • What is the current situation regarding core inflation as mentioned in the script?

    -The script indicates that core inflation is not only strong but continues to accelerate, making the Federal Reserve's job more challenging.

  • What does the script imply about the Federal Reserve's position and actions?

    -The script suggests that the Federal Reserve is in a difficult situation, often referred to as 'in a box'. As the cost of money goes up, it leads to multiple contractions, less demand for assets, and margin compression. The Fed is expected to raise rates significantly, potentially close to 7%, to combat the negative real rates currently in place.

  • How does the script describe the impact of rising interest rates on various financial aspects?

    -Rising interest rates are expected to lead to reduced demand for assets, margin compression, elevated volatility and risk premia due to the absence of a 'put' at the Fed, and an increase in the discount rate which results in a decline in business investment.

  • What is the significance of the term 'reverse Tina effect' in the context of the script?

    -The 'reverse Tina effect' refers to a situation where the cost of money goes up, leading to money flowing into bonds as an alternative investment. This term is used to describe one of the consequences of the rising interest rates.

  • What does the script suggest about the future of the 10-year yields?

    -The script suggests that the 10-year yields are expected to go higher due to the Federal Reserve's likely aggressive stance and the ongoing issue with CPI core inflation.

  • How does the script advise investors to position themselves in the current market conditions?

    -The script advises investors to continue selling the rallies, as the long-term trend is bearish. It also warns against waiting for a market pivot and a return to all-time highs, suggesting that this is a secular move that is just beginning.

  • What is the expected impact of the FED's change in tapering on the market?

    -The FED has reduced its tapering from 47.5 billion to 95 billion, which means there is now about 4 and a half billion less demand for assets per day. This significant number is something investors should be mindful of as it could impact the market dynamics.

  • What does the script indicate about the upcoming earnings season?

    -The script indicates that the upcoming earnings season will be more relevant and important than previous ones. It suggests that the margin compression from international earnings should begin to filter through, making this earnings season more impactful on the market.

  • What is the potential effect of international dollar-denominated debt on the market?

    -The script suggests that there might be a lag in the effect of international dollar-denominated debt on the market. However, as this impact starts to be felt, it could potentially lead to increased volatility and risk in the market.

  • What does the script imply about the short-term market dynamics?

    -The script implies that the short-term market dynamics are influenced by factors such as the FED meeting, the entering of a blackout period for buybacks, and the beginning of a five-week expiration cycle. These factors could lead to a fragile moment in the market, especially in the next two weeks.

  • What is the script's stance on the potential for a market downturn?

    -The script maintains a bearish stance, suggesting that a market downturn is likely and recommending strategies such as selling rallies and looking for counter-trend opportunities. It advises against waiting for a market pivot and emphasizes the importance of being cautious in the current macro environment.

  • What does the script indicate about the potential for long-term investments?

    -The script suggests that long-term investments, particularly in the context of options and structured products, may face challenges due to reduced demand and increased supply. It advises investors to be cautious and to consider the potential for a market downturn when making long-term investment decisions.

Outlines

00:00

📈 Economic Trends and Monetary Policy Challenges

This paragraph discusses the persistent long-term trends, particularly focusing on the recent CPI print indicating sticky core inflation that continues to strengthen. It emphasizes the challenges faced by the Federal Reserve in managing the economy as money costs rise, leading to asset demand contraction, margin compression, and a shift towards bonds due to the reverse Tina effect. The speaker suggests that the Fed is likely to increase rates significantly, possibly close to 7%, and advises selling rallies due to the public's awareness of the situation. The tug-of-war between macroeconomic flows and market positioning is highlighted as a recurring theme throughout the year.

05:02

📊 Market Dynamics and Upcoming Fiscal Events

The second paragraph delves into the market dynamics, especially the impact of the expiration cycle on buyback and charm flows, signaling a potentially fragile period for the market. It mentions the upcoming Fed meeting and the likelihood of a hawkish stance due to political considerations. The paragraph also discusses the Fed's actions in selling calls to achieve lower volatility and asset prices, and advises against waiting for a market pivot. It further explores the potential for short interest and the supply of V (presumably a financial instrument or index), predicting continued market pressure and a difficult environment for long positions. The speaker also notes the potential for long-all to perform well in the coming months, especially as election season approaches.

10:04

🌐 Global Economic Outlook and Investment Strategies

The final paragraph provides an overview of the global economic outlook, emphasizing the likelihood of continued inflation despite potential recessionary signals. It suggests that any reduction in inflation will be minimal and based on the short end of the curve. The speaker advises to continue selling rallies and looking for counter-trend opportunities, without the need for significant tail hedging at this point. The paragraph concludes by acknowledging the challenging market conditions but encourages viewers to seek opportunities in the current environment. It also includes a disclaimer that the content does not constitute investment advice and that viewers should consult with their advisors for personalized guidance.

Mindmap

Keywords

💡CPI

CPI stands for Consumer Price Index, which is a measure of the average change over time in the prices paid by urban consumers for a market basket of consumer goods and services. In the video, it is mentioned that the CPI print this month indicates that core inflation continues to be strong and accelerating, making the Federal Reserve's task of managing inflation more challenging.

💡Fed

The term 'Fed' is short for the Federal Reserve, which is the central banking system of the United States. The Fed's responsibilities include influencing the availability and cost of money and credit, safeguarding the stability of the U.S. financial system, and fostering maximum employment and stable prices for goods and services.

💡Sticky Inflation

Sticky inflation refers to a situation where inflation rates remain high and do not easily decrease in response to economic policies or changes in market conditions. It implies that once prices have increased, they tend to stay high, making it difficult for central banks to control inflation.

💡Margin Compression

Margin compression occurs when the difference between the interest income earned on assets and the interest expense paid on liabilities narrows. This can happen when interest rates rise, causing the cost of borrowing to increase while the returns on assets may not increase at the same rate, leading to a squeeze on profitability for financial institutions.

💡Risk Premia

Risk premia refer to the additional expected return an investor demands for taking on riskier investments instead of safer ones. When risk premia are elevated, it indicates that investors require higher returns to compensate for the increased risk they are taking on.

💡Discount Rate

The discount rate is the interest rate charged by the Federal Reserve to commercial banks and other depository institutions for borrowing from the Fed's discount window. An increase in the discount rate typically leads to higher borrowing costs for businesses and consumers, which can affect economic activity.

💡Real Rates

Real rates are interest rates that have been adjusted for inflation, providing a more accurate reflection of the true cost of borrowing and the real return on investments. When real rates are negative, it means that inflation is outpacing the interest earned on investments.

💡Tapering

Tapering refers to the gradual reduction of a central bank's bond-buying program, which is often used as a monetary policy tool to stimulate economic growth. When the Fed tapers, it reduces the amount of new money being injected into the economy, which can lead to changes in asset prices and interest rates.

💡Buybacks

Buybacks, or share buybacks, are a corporate action where a company repurchases its own shares from the open market. This can support the company's stock price and is often used as a way to return value to shareholders. However, buybacks can also affect market dynamics by reducing the supply of shares available for trading.

💡Structured Products

Structured products are financial instruments that are created by combining various types of assets, such as stocks, bonds, and derivatives, to form new investment products with specific risk-return profiles. These products are designed to meet the needs of specific investors and can be complex, with their value often tied to the performance of the underlying assets.

💡Seasonality

Seasonality in finance refers to the pattern of price changes or market behavior that tends to repeat at regular intervals over the course of a year, often related to the time of year or economic cycles. Seasonal factors can influence investor sentiment and trading volumes, leading to predictable market trends.

Highlights

Long-term trends continue with CPI print showing sticky core inflation accelerating, complicating the Federal Reserve's task.

The Fed is facing a challenging situation as the cost of money increases, leading to multiple contractions and less demand for assets.

Margin compression is a significant topic of discussion due to its impact on the reverse Tina effect and money flowing to bonds.

Volatility and risk premia remain elevated as there's no longer a 'put' at the Fed, and the strike has gone down.

The discount rate is rising, leading to a decline in business investment, which is bearish for the market.

Long-term rates are conservative, and the Fed is expected to go much higher, possibly close to 7%.

The current situation calls for selling the rallies due to the public knowledge of the macroeconomic situation and short positioning.

The tug-of-war between structural negative effects and positioning is expected to continue in the medium term.

Dollar strength is anticipated to continue, with margin compression from international earnings becoming more relevant.

The upcoming earnings season is expected to be more impactful than previous ones, with attention on international earnings.

Issues related to international dollar-denominated debt and potential tail risk are expected to build up in the market.

The Fed has reduced tapering, leading to less demand for assets, which is a significant number to be mindful of.

The market is entering a fragile period with a buyout blackout period for buybacks and a five-week expiration cycle.

The upcoming Fed meeting is anticipated to result in a hawkish stance due to political considerations.

The Fed is selling calls, aiming for low volatility and lower asset prices, which is a key point to remember when trading.

Short interest is at record highs, and supply and demand dynamics are expected to continue putting pressure on the market.

Long-all may become a better trade in the coming months as the election season and Q1 period present potential opportunities.

Seasonality is weak at the moment but is expected to improve slightly in about a month, providing more support and a positive turn.

Transcripts

play00:26

hello and welcome back to our September

play00:28

macro and flows

play00:31

update the long-term trends that we've

play00:33

spoken about throughout these updates

play00:36

continue to be in place as witnessed by

play00:38

the CPI print this month sticky core

play00:42

inflation continues to not only be

play00:45

strong but continues to

play00:47

accelerate uh making the fed's job

play00:50

harder uh we talked about this in our

play00:52

quarterly uh update um about uh the fed

play00:57

and the sticky situation that they're in

play00:59

the fed is in a box we've been talking

play01:01

about this for some time as the cost of

play01:04

money goes up uh you get multiple

play01:07

contraction less demand for assets um

play01:11

margin compression which we talked quite

play01:14

a bit about the reverse Tina effect so

play01:16

money starts flowing to bonds there's

play01:19

now there is an alternative now um

play01:23

volatility uh and risk Premia uh stays

play01:26

elevated because there's no longer a put

play01:29

um at the Fed

play01:31

or at least the strike has gone down um

play01:34

and of course the discount rate goes up

play01:36

so business investment declines as well

play01:38

all of these things obviously are

play01:40

bearish we've talked uh about this quite

play01:42

a bit the important part to understand

play01:45

is that four three and a half 4% uh

play01:50

long-term

play01:51

rates um are actually conservative um

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now uh again we talked about this in the

play01:57

quarterly uh newsletter if you haven't

play01:59

listen to it please or read it please go

play02:03

read it uh but what we talk about is is

play02:06

that burns raise rates 10 a half per. um

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William mcchesney Martin raised them 7 a

play02:14

half per. um and both of them uh barely

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made real rates positive or or kept them

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slightly negative but we are now at

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incredibly negative real rates um the

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FED has a ton of work to do it's our

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view that fed will actually go much

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higher probably close to 7% at the end

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so expect these 10year uh yields to go

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higher um expect uh a significant uh

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aggressive fed and CPI core to continue

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to clim all of that means longterm you

play02:49

need to keep selling the rallies that

play02:52

said we shouldn't continue to get these

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counter trained rallies why because this

play02:57

is public knowledge at this point

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position positioning is very short right

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um it is too easy to continue to sell uh

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this uh you know down to to lows at this

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point so there's a bit of a tug-of-war

play03:12

between these structural negative

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effects the macro flows that we're

play03:18

seeing and then the positioning and this

play03:20

tug-of war is what we've seen all year

play03:22

that should

play03:24

continue in the medium term the dollar

play03:27

strength

play03:28

continues um you know margin compression

play03:32

from International earnings should be

play03:33

beginning to filter through uh you know

play03:36

the earning season will be coming up

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here soon when it does we expect this to

play03:40

be a more relevant uh you know uh an

play03:43

important earnings season than we've

play03:45

seen in a while so expect there to be

play03:47

more attention on it this time around um

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and it for to actually have an effect um

play03:53

on on the underlying

play03:54

Market um we would also expect more

play03:57

medium to longterm starting to see issu

play03:59

isues which you know there's a bit of a

play04:01

lag here to uh International uh dollar

play04:04

denominated debt um and potentially tail

play04:08

starting to build in that uh

play04:10

venue um importantly September 1 uh

play04:14

September 1st uh we the FED has gone

play04:17

from 47.5 billion of tapering to 95

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that's about now 4 and5 billion Less in

play04:25

demand for assets a day so you know that

play04:28

is a signif ific number now up from half

play04:31

of that um in the months prior so um you

play04:35

know that's something to be very mindful

play04:36

of um in the short term here you have

play04:39

that effect as well as the fact that

play04:41

we're entering a buyout uh a blackout

play04:44

period for BuyBacks that is um that is

play04:47

also huge right by BuyBacks have been at

play04:50

record highs that uh you know that flow

play04:53

has been something that has been

play04:54

consistently supporting the market when

play04:56

we get into these blackout periods um

play04:59

that reduces is demand add to all of

play05:02

that uh we are now entering a five week

play05:05

expiration cycle I've talked about this

play05:07

before when these happen they once every

play05:09

three months or so when they happen uh

play05:13

especially at the beginning of that that

play05:15

five we cycle significantly reduce vaa

play05:19

and charm flows there's going to be

play05:21

significant less buyback of decay of the

play05:23

options which sit at the October monthly

play05:26

expiration and the Structured Products

play05:27

that primarily sit at that expiration

play05:30

so less demand from vonach charm more

play05:34

Supply uh from QT coming off the table

play05:38

or I guess less

play05:39

demand um uh less buyback um so a really

play05:43

kind of a fragile moment here uh the

play05:47

next two weeks in particular represent

play05:49

uh you know potentially dangerous period

play05:52

the FED meeting is also incoming here

play05:54

that is uh this coming Wednesday um you

play05:58

know unlikely to see a a Fed that is um

play06:02

especially going into this election

play06:03

season given the politics involved uh

play06:07

very likely to see a dobish Fed likely

play06:10

to see a hawkish Fed very um very

play06:13

strongly kind of ratcheting up uh what

play06:16

they need to do the FED is selling calls

play06:19

we've said this before they're not

play06:20

buying plates they're selling calls they

play06:22

want low volatility but they want asset

play06:26

prices lower they want deleveraging in

play06:28

the market and again don't fight the FED

play06:32

there will be counter trun rallies but

play06:34

do not sit here waiting for a pivot and

play06:36

a return to alltime highs this is a

play06:38

secular move that is really just

play06:43

beginning so CBI is hot F fed's

play06:46

credibility is probably the most

play06:47

important thing especially going a

play06:49

political cycle so the macro is uh you

play06:51

know there's a macro overhang um you

play06:54

know these are all things that you need

play06:56

to be cautious of so what what's a bull

play07:00

case you know what should we be careful

play07:01

of again positioning short interest

play07:04

record highs also V is dramatically

play07:08

overs supplied we just left a quarterly

play07:11

expiration where there was lots of short

play07:14

interest from

play07:15

dealers and behind that they've been

play07:17

able to buy and own B um at a discount

play07:20

so there is VA well supplied on top of

play07:23

that we have an incoming JP Morgan

play07:26

hedged Equity VA put Sprint collar being

play07:29

sold that'll be sold at the end of the

play07:31

quarter here D quarterly um V really

play07:35

coming into the picture that's important

play07:38

because D quartly at end of the year V

play07:41

generally is very highly demanded when

play07:43

you get a lot of V Supply in that area

play07:45

you're actually begin to see uh people

play07:48

who are short getting back the Vall that

play07:50

they've been short and that has an over

play07:53

exaggerated effect on V so v We Believe

play07:56

will continue to be well supplied um but

play07:59

there we we believe there will be short

play08:01

um you know pressure on the market

play08:03

throughout this period so more as we've

play08:06

called for Market down VA down more of

play08:08

what we've seen this should continue We

play08:11

Believe until the end of the year to

play08:13

really make longv a um a you know short

play08:17

the market a good trade but longall

play08:19

broadly a difficult trade the more that

play08:23

this happens the more we're going to

play08:24

begin to see liquidation out of all

play08:26

trade out of all Investments puts will

play08:29

be less demanded we believe we are

play08:32

already in the eighth or ninth inning

play08:34

now of um and we called about we called

play08:37

this in late June actually um of of the

play08:41

um uh you know the longall

play08:43

underperforming trade so we we believe

play08:46

there's a a window that is opening now

play08:48

for longall to perform probably starting

play08:52

in about a month or two so as we get

play08:54

past you know into November December

play08:57

election season it get starts to get

play08:59

interesting

play09:00

uh and very much so even the q1 period

play09:03

January through uh March we believe is

play09:06

is really a window um of a potential

play09:09

tail opening um so we're getting there

play09:12

we believe we're we're in the last

play09:13

Innings maybe another quarter here but

play09:16

we called in late June 3 to nine months

play09:19

out uh about and we're almost to that

play09:21

three-month Mark which I think is

play09:23

important um to note so those are those

play09:26

are the kind of the bullish supportive

play09:28

things that are happening so we don't

play09:29

expect big fireworks yet but something

play09:31

out there on the horizon and something

play09:33

to be thinking about and planning for

play09:35

with your your

play09:37

trades um last of all um you know it's

play09:41

important to note that that seasonality

play09:43

here is still quite weak as well people

play09:46

talk a lot about that but that's

play09:47

probably for about another month um and

play09:51

then and then we'll we'll probably see a

play09:52

little bit more support and some

play09:54

positive um turn there um but again

play09:58

longterm the trend is clear the macro

play10:01

reasons for it have been reinforced of

play10:03

anything throughout our period it's what

play10:05

we've been calling for we begin to we

play10:07

continue to see in the data even if we

play10:09

do get a recession like we saw from

play10:11

FedEx uh calling for for that we believe

play10:14

the amount of inflation reduction that

play10:17

we'll see will be based on the short end

play10:19

the curve and if anything they response

play10:22

to that which is likely to be more

play10:23

fiscal in this political season will

play10:26

only make that 10-year longer term um

play10:30

inflation Outlook even worse so continue

play10:33

to sell the rallies look for counter

play10:35

Trend opportunities no need to sell it

play10:37

here no need to try and Hedge for a big

play10:39

tail yet but that that is on the

play10:42

horizon as always thank you for tuning

play10:44

in uh and and be water there's lots of

play10:47

opportunities out there even in this

play10:49

difficult Market thanks for tuning

play10:58

in

play11:04

this does not constitute an offer to

play11:06

sell a solicitation of an offer to buy

play11:09

or a recommendation of any security or

play11:11

any other product or service by Kai or

play11:14

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play11:16

whether such security product or service

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is referenced in this video furthermore

play11:20

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play11:22

provide tax legal or investment advice

play11:25

and nothing in this video should be

play11:27

construed as a recommendation to buy

play11:29

sell or hold any investment or security

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or to engage in any investment strategy

play11:34

or transaction Kai does not represent

play11:36

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play11:40

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play11:43

responsible for determining whether any

play11:45

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play11:50

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play11:52

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play11:55

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play11:57

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play11:59

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play12:01

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play12:05

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