Nearly three months into 2022, US equities are largely indecipherable.
There’s nothing unusual about market participants and journalists retrofitting a narrative to the price action or resorting to humorously belabored attempts to explain stocks’ behavior by reference to a set of incompatible headlines. What is somewhat unusual, though, is the extent to which media outlets themselves are now skeptical of such efforts.
“Remember when equities were infinite-maturity assets with elevated valuations justified by low interest rates?”, Bloomberg’s Cameron Crise asked. “Apparently now they’ve transmogrified into zero-maturity floating-rate notes that hedge inflation risks via adjustable revenue streams,” he went on to joke.
The terminal dwellers among you will note that only Crise would use “transmogrified.” He’s a gifted writer, but sometimes his attempts to conjure chuckles with words rarely heard in the wild elicit more eye-rolls than laughs.
Writing in a Thursday note, Nomura’s Charlie McElligott made the same point without using the thesaurus. “How did we go from the ‘inflation hawk, Fed pivot that created the past five-month equities zeitgeist of ‘higher interest rates / FCI tightening = destruction of high-multiple stocks that are really just long duration assets’ to suddenly now, over the past two weeks, the TINA argument of ‘higher interest rates benefit stocks, because they act like TIPS but with pricing power?'”
The answer, of course, is that the vast majority of market participants don’t like to admit that equities can be driven almost solely by positioning and flow dynamics they don’t fully understand for extended periods of time. Instead, investors and journalists spend their days playing what Charlie called “pin the tail on the narrative.”
For weeks, stocks were a viciously raucous affair, the result of extreme Greeks. The good news is, there’s been “a broad shift in options dealer positioning across US equities Index / ETF majors back to market stabilizing ‘long gamma,’ which acts to compress vol and trading ranges,” McElligott said. He did flag one “pocket” of local short gamma associated with a large options position. Without delving into the specifics, suffice to say 4,510 matters.
What I wanted to highlight here is the scope of systematic de-leveraging as quantified by Nomura’s models. This is helpful, as it gives you an idea of what you’re not hearing about when you read daily market wraps published by whatever mainstream media outlet you prefer. Consider these bullet points from Charlie:
- CTA Trend had sold ~$150B (from “long” to “short”) since mid-Nov ’21 to the Jan “max short” lows across Global Equities futures per our model estimates (at late Jan ’22 “max short” lows, down to 0.2%ile Net Eq Exposure since 2011)
- US Equities Vol Control had de-allocated ~$145B of Equities futures over the past 6m on the vol reset which came with the global central bank “inflation hawk” policy regime shift, meaning FCI from “easy to tight,” as legacy positioning was unwound “From Duration to Inflation” (at Mar ’22 lows, down to 9%ile Eq Exposure since ’11)
- All while Risk Parity had de-leveraged $53B of Global Equities from the pre-COVID VaR shock highs (at Feb ’22 lows, down to 2.1%ile Eq Exposure since ’11)
I’d suggest that for most market participants, the %ile rankings McElligott includes are perhaps more insightful than the numbers themselves. If you’re truly immersed in this, the scope of the de-risking is meaningful, but for everyday people, those are just “big numbers.” If that’s you, the %ile rankings are probably more useful, as they help you get a sense of how “complete” the systematic positioning purge was.
The read-through, obviously, is that if vol recedes and markets manage to retain some upside momentum, those strats will dial their exposure back up. And, in fact, first-mover CTAs already have.
“CTA Trend has covered and is now back to an aggregate ‘net long’ position across all global equities futures in the model, adding ~$49B off the lows and with ~$32B of that in the past two weeks alone,” McElligott went on to say.
As for vol control, realized has to reset lower in order to trigger lagged exposure adds. The figure (below) is a reminder of just how topsy-turvy things have been since the December Fed minutes were released.
“Vol control is slower moving,” McElligott wrote, noting that if you project daily S&P changes of 1% over the next month, that would entail more than $20 billion in increased exposure. The figure goes to almost $27 billion if equities settle into a more pedestrian range with daily changes confined to a 0.5% band.
As for risk parity, Charlie flagged “substantial re-leveraging across global equities positions as the COVID shock rolls out of our lookback window.” Equities exposure there is now back up to the 32%ile.
Finally, those wondering about rebalancing flows are left to ponder the vagaries of a market hostage to the flows you don’t hear about. “Estimates into the start of last week were for a ‘buy’ of equities, but that was before a 9% rally in the S&P thereafter!”, McElligott exclaimed. “So instead, the flows have reversed, turning ‘buy bonds, sell equities’ on the pension rebalancing.”
How’s that for transmogrification?