Depressions Used To Mean Something.

“What we are hearing from our contacts is that May is going to loom as a large month, in terms of the transition of concern from this being a liquidity issue, one where we are really talking about cash flows, to this perhaps translating and transferring into a solvency issue, and whether companies can exist at all”, Atlanta Fed boss Raphael Bostic said Wednesday, in a foreboding series of remarks delivered during a teleconference with civic groups in Birmingham, Alabama.

Bostic’s assessment of the stark reality facing what he described as “wide swaths” of the US economy came on a day when market participants were forced to digest a barrage of data that was alarming, even as it was expected.

The problem for market participants is, I suppose, akin to that soldiers confront during their first deployment to a war zone. No matter how prepared you think you are psychologically, the carnage is initially jarring, at least for a split second, until the adrenaline and training kicks in.

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We’ve been told for weeks to anticipate absolutely horrendous data. Indeed, everyone is apprised of the extent to which the numbers are almost guaranteed to be worse than anything witnessed in the history of modern economic statistics – and on virtually every, single front.

And yet, investors seemed overwhelmed with the combination of a record slump in retail sales, the steepest drop in industrial output since 1946 and an almost comical plunge in the Empire Fed gauge. The IEA’s rather alarming monthly oil report didn’t help.

The bottom line, colloquially speaking, is that this ain’t gonna be easy, folks. Even if we have seen the lows (a proposition I continue to doubt), there are going to be some rough days where the sheer scope of the economic malaise is too daunting.

But, even as the VIX sticks near 40 and stocks swing between 2-3% gains and losses, things are less violent. “Calm” is a relative term in our post-COVID reality, but after last month, April’s swings have a kind of “what’s 500 Dow points between friends?” feel to them.

In the background, things are normalizing – if slowly. “Despite today’s pullback from a ‘toppy market’… we are witnessing more return to behavioral normalcy in the Equities space, with very significant single-name Overwriting flows in mega-cap names in recent days”, Nomura’s Charlie McElligott said Wednesday, adding that “for now, Vol sellers are again being attracted by perceived ‘rich’ levels as a return-enhancer in a world starved for performance and yield”.

That’s good news. Because the other side of those flows is dealers positioned long gamma, putting us back on the path to a regime where hedging flows tamp down volatility rather than exacerbate directional moves.

“Their hedging flows would then see dealers buying weakness/selling strength, thus ‘tighter’ trading ranges and less ‘violence'”, McElligott went on to say.

That then opens the door to re-leveraging from the vol.-targeting universe, which completely purged itself over the course of the rout. Over the past week, for example, Nomura’s model shows $6 billion of buying.

Remember, vol.-control exposure charts tend to exhibit an “escalator up, elevator down” pattern, so the re-leveraging will be gradual as realized vol. normalizes. But the incremental buy flows are welcome.

“Volatility-targeting funds will start adding equities as volatility declines”, JPMorgan’s Marko Kolanovic said this week. “Initially this would be at a very slow pace”, he added, echoing the above.

In CTAs, McElligott notes “ferocious signal chop” in the SPX position, as spot moves above and below pivot levels daily, leading to frequent signal flips.

“CTAs would be covering shorts/buying long if the S&P 500 reaches ~2900”, Kolanovic remarked on Monday, adding that systematic investors’ exposure remains “near the bottom of its historical range”.

Risk parity exposure is still extremely depressed after the stunning deleveraging that unfolded during the selloff. The risk parity purge doubtlessly exacerbated the cross-asset pain in March, although some on the buy-side are loath to admit it. Gross exposure is 220%, in just the 0.3%ile since 2011, on Nomura’s model. That, McElligott reminds you, is down from 554% at the highs on February 10.

(Nomura)

Most of the above means there’s scope for systematic flows to help things along assuming, again, that volatility continues to trek lower and eventually returns to some semblance of “normal”, or whatever the “new normal” is – I assume (and hope) it’s not 60.

And yet, we’re losing a key pillar of support from the largest source of US equity demand: buybacks. About a quarter of last year’s total were already suspended through mid-March and you can expect more of that going forward. Buyback growth had already decelerated materially as the tax cut windfall wore off.

“We are entering the earnings ‘buyback blackout’, which for obvious reasons has already become a ‘black hole’ of prior mega-demand slowing to a ‘drip'”, McElligott said Wednesday.

Fortunately, that real-life example of plunge protection courtesy of the corporate bid has seemingly been replaced by an even more powerful, more indiscriminate buyer in the Fed. Of course, not directly in equities – yet. But certainly in IG, some high yield and credit ETFs, not to mention the hodgepodge of liquidity facilities that effectively allow banks to fund whatever they want for the foreseeable future.

Through it all, there are some folks who just can’t seem to let go of the whole “but we’re in a depression” excuse when it comes to adopting a cautious outlook. Here’s Rabobank’s Michael Every:

‘Worst global downturn since the Great Depression’ says the IMF. Actually, it’s potentially worse than that. We are seeing credible (initial) claims in the UK and US that millions/tens of millions are going to be unemployed — again taking us back to black & white memories of long queues of the jobless holding signs saying “Will Work For Food.” We are also seeing calls for GDP to collapse by up to a third in the presumed Q2 trough in the UK and the US, as just two examples, which in the space of months would already take us to the kind of depths plunged back in the 1930s (and actually this will be the worst recession since the 18th century according to one UK report.) Moreover, in a world far more economically-integrated today than it was in the 1930s, what happens in the (smaller) West will rapidly hit the (larger) rest.

Duly noted, Michael. And days like Wednesday prove shocking data still has the potential to… well, to shock.

Here are the IMF numbers he refers to, broken down by advanced economy:

No matter how bad it gets, it could be that thanks to unbridled stimulus, the days of “worst downturn since the 18th century” counting as a good reason to cling to a bearish lean for longer than a few weeks are over.

I jest. But only a little.

Depressions used to mean something. And they still do, for Main Street. Whether they still matter for financial assets is an open question.

We’ll have an answer around the same time America goes to the polls – dressed either in MAGA hats and Biden buttons, or else in hazmat suits.

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