Last month, I spent some time editorializing around a 2024 outlook piece which echoed many of my own talking points regarding the extent to which chaos and volatility are in fact the norm for humanity, not the exception.

If that’s true (and I’m quite sure it is), the post-pandemic, war-era macro regime represents a return to normal, whereas The Great Moderation was in fact the outlier. That’s the opposite of how economists tend to frame the debate. Even those old enough to know better suffer from recency bias which tells them that macro volatility should be low and that humanity should generally exhibit an inclination to avoid violent conflict in the interest of cooperation and progress towards common goals.

One side effect of the macro shift (or the “mean reversion” if you, like me, don’t buy the idea that The Great Moderation represented the dawn of a “new normal”) was an unfamiliar constraint on monetary policy’s capacity to support asset prices. In the 2024 outlook piece mentioned above (and cited in the linked article), BofA suggested that this is the first time since its inception, under Alan Greenspan, that the vaunted “Fed put” has been constrained by inflation.

That might’ve been true in 2022, but it ceased to be so in March of 2023, when Janet Yellen and Jerome Powell teamed up to bail out depositors and backstop the banking system just in case drama at a handful of regionals spilled over and escalated into something systemic. At that point, the Fed put was arguably back, and when you consider the extent to which the Fed and Treasury again teamed up to rescue stocks in early November (when Yellen cut Treasury’s borrowing estimate and tipped smaller-than-expected coupon increases at the QRA while Powell cited the very same back up in long-end bond yields that Yellen was working to snuff out in taking a December rate hike off the table), it’s not far-fetched to suggest that it’s struck somewhere in the neighborhood of SPX 4100.

That’s not lost on markets. Not much is, frankly, notwithstanding all the jokes we make about “dumb” equities.

In a Monday note, Nomura’s Charlie McElligott explained this in straightforward terms and contextualized it by way of negligible interest in downside protection and the eye-watering asymmetry with demand for upside optionality amid the AI-driven melt-up.

The table shows vol, skew and put skew “cratered into nothingness,” as Charlie put it, and call skew “roofed” thanks to a “perpetually-bid” call wing. That latter bit represents crash-up fear, and when juxtaposed with the Pavlovian response function that says you sell vol into any expansion, you get a positive spot-vol correlation — i.e., vol rising into rallies and sliding into any nascent selloff. (Is this getting through to anybody? I hope so, because unlike most daily market color, this actually is important.)

“The fact of the matter is that in a US equities market where stocks only go up and simply refuse to pull back due to 1) the AI mania / NVDA ‘halo effect,’ along with 2) the perception of US economic Goldilocks allowing for a soft landing while still too getting ‘insurance cuts’ from the Fed into year-end, has made this a market for vol sellers to collect extra yield,” McElligott wrote, adding that between expected rate cuts and Powell’s demonstrated willingness to provide liquidity at the first sign of trouble, markets see little utility in burning up money on insurance.

Whatever the ebb and flow of rate-cut pricing in response to Fed pushback and the incoming data, the fact is, the bar for rate cuts is actually quite low in some respects. We don’t need a recession. Inflation just has to recede at the margins for the three cuts tipped by the December dot plot to “realize.” If the labor market deteriorates and inflation doesn’t accelerate sharply, those rate cuts will come to fruition. At the same time, no one doubts that Powell would let banks fund their assets at the Fed in a real pinch and on favorable terms if necessary.

So, why hedge? Or, more aptly, why hedge downside? We know why you need upside optionality/exposure: Nvidia. But when it comes to protecting yourself from a crash, McElligott had this question Monday: “Why bother spending the premium / paying theta [when] the Fed has the hedge on for you?”

Oh, and there’s a new king: