On Thursday, at 12:30 (almost on the dot), something snapped.
The VIX spiked, the bottom fell out for stocks, and USDJPY plunged.
While it is of course impossible to pin down the reason for the sudden reversal, more than a few folks (us among them) have suggested that the proximate cause was a note from JPMorgan’s Marko Kolanovic.
In other words, the whole thing was blamed on a “Gandalf” sighting.
We documented this extensively on Thursday, and you should read the posts, if for no other reason than that they are unequivocally hilarious:
- Kolanovic Triggers Selloff, VIX Spike As ‘Gandalf Risk’ Strikes
- ‘I Come Back To You Now’: Kolanovic Returns, Everyone Panics
To be sure, Marko didn’t say anything that he hasn’t said before and indeed, the risk posed by the feedback doom loop created by the interplay between inverse and levered VIX ETPs and systematic/programmatic strats that have levered up in the face of suppressed volatility, is now very well known to traders.
And perhaps that’s the problem.
That is, it could very well be that because human traders are now acutely aware of the danger posed by a mechanical unwind triggered by the first vol. domino being tipped, carbon-based lifeforms are now predisposed to selling when someone comes along and suggests that the risk of that unwind is rising.
“The only thing to fear, is fear itself” – as it were.
This is something we talked about in “Investigating The Market’s Nightmare Scenario.” Recall this from BofAML:
Fear of CTA flows may be the greater threat
When fears of CTAs driving the market lower become a self-fulfilling prophecy. While our expectations of potential CTA equity deleveraging flows may not dominate volumes in isolation, a remaining unknown is the additional selling pressure from investors fearful of these model driven flows.
In any event, you can draw your own conclusions, but do note that Kolanovic’s note started to make the rounds at 12:30 and here’s what happened around that timestamp:
With all of that in mind, consider the following two amusing reads on the situation from Bloomberg’s Cameron Crise and Michael Regan…
The two questions on investors’ lips this morning are: 1) what the heck happened to equities yesterday? and 2) will U.S. GDP finally deliver the goods today? While yesterday’s afternoon swan dive in stocks was attributed in some quarters to a JPMorgan note, it rings a little false to me. Is it really sensible to believe investors would wipe $250 billion off U.S. equity market value simply because an analyst, even one as talented as Kolanovic, pointed out the kind of market dynamics that people have been going on about for what seems like the better part of a decade? Month-end rebalancing, a phenomenon also pointed out by Kolanovic a few years ago, seems a more likely culprit. Or maybe someone merely made a bet on the idea Amazon earnings would fall flat — after all, there’s 20 years of data to support that thesis. As for GDP, the street is generally pretty hopeful for a solid figure. Breaking down the Atlanta Fed GDPNow forecast as a representative sample, it’s that its expectations for the contribution of household spending is more or less in line with the trend of the past couple of years, as is the contribution of net exports. Overall capital expenditure is also broadly similar, though the split is tilted more toward non-residential spending than in recent quarters. The real positive growth impulse comes from inventories, which is a bit of payback after four straight quarters of negative contribution. Of course, today also sees benchmark revisions, so this data will likely look very different at 8:30 New York time. It will be interesting to see if aggregate growth is revised up, as is often the case in expansions…perhaps that might solve a bit of the productivity conundrum and give some comfort to the Fed?
Whether or not Marko “Gandalf” Kolanovic was the cause of yesterday’s reversal in stocks — I’m somewhat less skeptical of that narrative than Cameron, though obviously no one can be 100% certain of such things — it’s clear that the low-vol environment has gotten so extreme it’s spooking a lot of investors. (MLIV’s own mild-mannered Dave Wilson opted for the understated route, headline-quoting a strategist saying it’s a “ticking time bomb.”) If that’s true, one thing to suggest the clock on the time bomb may be getting closer to zero is simple seasonality, as Kolanovic pointed out to some sharp-dressed guys in an interview yesterday. Now look, I read my email and am fully aware that there are probably more people skeptical of seasonality than there are those skeptical that decrees from JPM’s wizard can cause the market to reverse tack. So take this seasonality chart showing the five- and ten-year VIX averages with as many grains of salt as your cardiologist will allow: To quote another quant guru: “August sucks.” With a full calendar of important global central bank meetings after that, you gotta wonder about September too.
Draw your own conclusions….