Macro and Flows Update: March 2023 - e15

Summary

In this episode of Macro and Flows, Kai discusses the market's reaction to recent events, including the February Opex and the anticipated 5-week cycle leading to March Opex. He highlights the Fed's role in managing market expectations and inflation, emphasizing the importance of not fighting the Fed's policy direction. Kai also touches on the potential impact of the upcoming election cycle and geopolitical tensions with China on the economy and markets, advising viewers to be aware of structural macro flows and to manage their investments actively.

Takeaways

• 📉 The recent market decline following the February Opex is attributed to a reduction in positive flows and a shift in market dynamics.
• 🔄 March Opex is expected to enter a 5-week cycle, historically associated with weaker market performance and reduced positive flows.
• 💹 Despite market decline, it has been relatively calm due to buybacks and structured product flows, which are expected to decrease in the upcoming weeks.
• 🏦 The lack of buybacks during the earnings season, starting around March 16th, may contribute to a lack of demand in the market, potentially exacerbating the downturn.
• 📈 The Federal Reserve (Fed) is likely to address the drop in long-end yields, which have fallen dramatically, as it does not align with their goals to combat inflation.
• 🚫 The Fed's actions suggest they are not aiming for a 2008-style banking crisis, but rather a controlled reduction in market speculation and valuations.
• 🛠️ The Fed's quick response to the Silicon Valley Bank and Signature Bank issues indicates a desire for controlled liquidation in speculative sectors.
• 📊 The banking sector's inherent leverage makes it vulnerable to crises of confidence, which can lead to a chain reaction of liquidation events.
• 🌐 Geopolitical tensions, particularly with China, may escalate during the political season, influencing market sentiment and Fed policy.
• 🏆 The upcoming election cycle may lead to increased fiscal stimulus, potentially driving further inflation and impacting long-term market trends.
• 📝 This transcript is for informational purposes only and should not be construed as investment advice; individuals should consult with professionals for personalized guidance.

Q & A

What is the significance of the February 15th to 17th February Opex mentioned in the script?

The February Opex mentioned in the script is significant because it represents a time when investors may choose to take beta off the table, potentially leading to market adjustments or liquidations. It is a period of interest for those following market trends and making investment decisions based on options expiration dates.

What does the term 'liquidation' refer to in the context of the script?

In the context of the script, 'liquidation' refers to the process of converting assets into cash, often due to market downturns or the need to meet margin calls. It is a selling of assets, which can contribute to a decline in market prices.

What is a 5WE cycle as mentioned in the script?

A 5WE cycle, as mentioned in the script, refers to a five-week options cycle. This cycle indicates a period where there is typically less positive flow under the market, and it is characterized by a longer duration of about two weeks instead of the usual one week. During this time, the market may experience a calmer decline due to less buying activity and buyback support.

Why is the buyback window closing from March 16th to April 28th?

The buyback window is closing during this period because approximately 40% of buybacks are put on hold starting March 16th. This is typically due to the earnings season, during which companies are not allowed to buy back their own stock as part of regulatory restrictions to prevent insider trading and maintain fair market practices.

What is the Fed's stance on the long end of the curve and yields according to the script?

According to the script, the Fed is likely to maintain a less accommodative stance on the long end of the curve and yields. They aim to talk back up the yields to prevent more speculation and market demand from investors, as they believe the recent dramatic drop in the bond market is not in line with their goals, given the ongoing inflationary and stagflationary problems.

What does the script imply about the Fed's actions during a market decline?

The script implies that the Fed has been actively managing the market decline by selling calls and attempting to reduce speculation and negative wealth effects. They aim for a controlled liquidation and lower market levels to achieve their economic outcomes, but they also move quickly to secure depositors and prevent a full-blown crisis, as seen with Silicon Valley Bank and Signature Bank.

What is the expected impact of the election cycle on the economy and markets?

The script suggests that the upcoming election cycle, about a year away, will likely lead to more fiscal stimulus. As the market comes down and the economy slows, politicians may use this as an opportunity to introduce more fiscal stimulus measures, particularly targeting younger generations and those in need of financial support. This could potentially lead to more inflationary pressures and continue the secular problem of high market valuations.

How does the script describe the current state of the banking sector?

The script describes the banking sector as leveraged and potentially vulnerable to crises of confidence. It suggests that banks, especially those without an implicit guarantee from the federal government, could face significant challenges if deposits or capital are withdrawn on a large scale. The sector is characterized as a 'leverage shell game' that requires confidence and support to function properly.

What is the script's outlook on the structural positioning of rates?

The script suggests that structurally, rates are expected to continue rising, albeit not necessarily in the immediate future. The Fed's actions to combat inflation and maintain price stability will likely require higher rates in the long term, which could pose challenges for market valuations that are currently high relative to the higher interest rates in the back of the curve.

What geopolitical factor is mentioned in the script that could impact markets?

The script mentions the geopolitical tensions between China and the US as a factor that could impact markets. It suggests that political seasons may lead to tougher rhetoric against China and more reactionary policies, which could escalate into bigger problems. The script advises not to lose sight of this issue as it could have significant implications for the market and the global economic landscape.

What advice does the script give to investors regarding market positioning and management?

The script advises investors to be aware of the structural macro flows and to manage their positions actively during different market windows. It emphasizes the importance of being cognizant of structural positioning and being prepared to adapt to changing market conditions. The advice is to 'be water', suggesting flexibility and adaptability in investment strategies.