The Summer Bonanza Scenario, Bassman On Archegos & Other Potpourri

The Summer Bonanza Scenario, Bassman On Archegos & Other Potpourri

Some folks were vaccinated.

Four million of them in a single day, actually.

This is “old” news, I suppose, but the fact that the US managed to get four million shots into arms in a 24-hour period last weekend was an achievement that some in the medical community described as unfathomable. “Who would ever have thought that the same country that couldn’t even get a COVID test working and scalable for two months could vaccinate more than four million people in a day?,” Eric Topol wondered, calling that “quite a turnaround.”

Indeed it is. One in three Americans has received at least one dose of a vaccine. Joe Biden on Tuesday again moved the timeline up on universal adult vaccine eligibility, this time to April 19. Already, every state except Hawaii and Oregon is set to hit that goal. By the end of this week, three-dozen US states will have announced that everyone 16 and over is eligible for a shot.

Part of the rush is an effort to get ahead of new variants, and there are still serious concerns about the capacity of more transmissible strains to catalyze a fourth US wave. And yet, it’s impossible to escape the feeling that the Biden administration is, at the least, running as fast as the virus, if not managing to stay ahead of it on most days. The US is administering an average of three million doses every day.

Little wonder, then, that market participants are finding it more and more difficult to fade reopening optimism. Joe Manchin aside, additional large stimulus is a virtual guarantee. And there’s rampant speculation that Biden may decide to forgive $50,000 per person in student debt, even though he repeatedly insisted he was only willing to write off $10,000.

At the risk of trafficking in bullish hyperbole (and accidentally stoking the same kind of inflation fears that I very often play down in these pages), it’s at least possible that the following four factors could all be in play in the US at the same time within six months:

  1. Near universal vaccination is realized
  2. The services sector reopens full-force just in time for summer
  3. Some version of an infrastructure proposal becomes law
  4. Untold billions in student debt is wiped clean overnight

If all of that were to play out over a compressed timeframe (say, two months) it’s difficult to overstate how dramatic the economic ramifications could be.

Imagine elevated savings being spent into the economy with a vengeance as pent-up demand and cabin fever are released all at once. Countless students previously laboring under tens of thousands in student loan debt would be relieved both of a psychological albatross and payment obligations, conceivably freeing up not just disposable income for shopping trips, but also boosting credit scores and giving cohabitating couples the economic confidence to embark on the road to household formation.

Warm weather and sunshine would provide a perfect atmospheric backdrop for shopping, drinking and home tours. “California officials plan to fully reopen the economy on June 15 — if the pandemic continues to abate — after driving down coronavirus case loads in the most populous US state,” Bloomberg wrote Tuesday, noting that “the move will lift capacity limits on restaurants, movie theaters and other businesses [and] do away with [the] current tier-based reopening system, which is based on county-level virus metrics.”

Make no mistake, all manner of things could derail this rosy scenario, Manchin’s centrist pandering being the least worrisome of the tail risks.

And yet, with each passing vaccination and each favorable procedural ruling, the summer bonanza scenario outlined above becomes more likely. When it comes to student debt forgiveness, there are more than enough economic arguments Biden can avail himself of if he wants to hand Progressives a win by going “all-in” on the $50,000 figure he previously ruled out. For example, he could argue that the higher amount would benefit minorities and thereby reduce inequality given that African American student debt burdens are more onerous on multiple metrics.

In any case, those are just some things to consider as you look to position for the second quarter.

US equities were a sideways drift Tuesday, with headlines generally dominated by the latest from the Archegos saga and specifically, the outlook for Credit Suisse. The bank has emerged as the unequivocal loser in a debacle that largely spared the likes of Goldman and Deutsche Bank, both of which described their losses in the blow-up as not material. Morgan Stanley reportedly unloaded some $5 billion of stock to “a small group of hedge funds” the night before things fell to pieces, sources told CNBC.

Credit Suisse said Tuesday its losses are likely to total some $4.7 billion. Harley Bassman weighed in with his guess on how things unfolded. To wit:

The (hopefully) last shoe dropped on the collapse of the Archegos Hedge Fund with Credit Suisse closing out (?) their positions in VIAC, VIP and FTCH yesterday.

So how did they manage to lose of $4.7bn…? Here is my back-of-the-envelope guess:

Brokers are usually restricted to lending only 50% of a security’s value; so with a VIAC close on March 22 at $100.34, they could lend $50.17, or be at risk if VIAC dipped below $50.17 before they could collect a margin call.

Rumor is that some firms were using swaps to offer 5 to 1 leverage, which is the equivalent of lending 80% vs a margin deposited of 20%.

Using this math, the client posted $20.07 and the broker lent $80.27, which means that the broker was on the hook below $80.27 until they could collect on a margin call.

For risk purposes, this can be replicated as the broker being short the $80 strike put with a one week expiry (the time to satisfy a margin call). This option was worth about 15c on March 22; BUT…that assumes one can trade 34mm shares (~7% of the float) in a single trade.

The more realistic risk replication is a one to two month option (think Lehman Brothers) so the “short option” can be modeled at about $5.

Consequently, the broker is effectively short a VIAC put option on 34mm shares with a strike of $80. If they closed out the ticket at ~$42/share (an option price of $80 – $42 = $38), that would create a loss of $33 per option ($38 – $5).

34mm shares times $33 equals $1.122bn.

Repeat for the other positions, and there you have it.

It’s never different this time since short Convexity is always Lurking near the scene of the crime.

As a reminder, Bassman is a guy who knows what he’s talking about.

Further in the way of “potpourri,” intermediates again paced a rally in Treasurys. Remember that long fives call from TD in the wake of March payrolls? Well, five-year yields are now lower than pre-NFP levels.

“As with all ostensibly flow-driven movements in US rates, whether a function of an auction concession, corporate issuance, rebalancing, or a position unwind, it’s ultimately the omnipresent risk the price action takes on a life of its own that makes it relevant,” BMO’s Ian Lyngen and Ben Jeffery remarked. “Triggering key technical levels, thereby driving more position covering is an obvious example and perhaps this is what has brought the Treasury market to the current stage as we see 5s now -8 bp versus 2s and 10s on the fly after having traded positive yesterday for the first time since March 2020,” they added.

Of course, the narrative is that outperformance in the belly is representative of the market questioning itself after having aggressively brought forward Fed hikes in illiquid holiday trading last week. “This is a big unwind of the knee-jerk post-payrolls reaction, and premium on Fed hikes has subsequently faded, with… front-end swaps now pricing in around 22bps of rate hikes for the December 2022 FOMC meeting, down from 29bps Monday,” Bloomberg’s Edward Bolingbroke said.

I’m reluctant to read too much into this. The idea that the market was convinced on Friday that the Fed would be forced into “early” hikes and has since become unconvinced in the space of just two sessions seems dubious, especially considering that the best ISM services print in history argued, if anything, in favor of the notion that Fed hikes will commence sooner than the dot plot would have you believe.

You can write your own script.

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