2022.01.17 Weekly notes
Volatility is back to being ‘the talk of the town’
There have been countless ‘volatility’ headlines over the past 6 months or so and even in the 2 years before the pandemic struck. It is back to being ‘the talk of the town’ again, and of towns everywhere — so to speak…
- World Economic Forum: Expect 3 more years of consistent volatility, uneven recovery (YahooFinance)
- Market may see intermittent volatility this year (Financial Express)
- PIMCO predicts steeper US yield curve, more volatility in 2022 (Reuters)
- Whipped-up Nasdaq volatility is new gut check for bottom feeders (Bloomberg)
- Morgan Stanley, BNP Brace for Return of Currency Swings (Bloomberg)
- Traders Brace for Higher Volatility; Altcoins Underperform (CoinDesk)
A common theme in trading investing news…
- Inflation Figures and Volatility Expectations Confront Investors (PlanAdviser)
- Why Have Stocks Been So Volatile? (Morningstar)
- Apple stock is a ‘place to hide’ amid volatile markets (MarketWatch)
- How To Survive Volatility In 4 Simple Step (SeekingAlpha)
- 3 of the Best Growth Stocks to Buy After the Recent Volatility (TheMotleyFool)
- Top 5 Momentum Picks for January Despite Market Volatility (YahooFinance)
It’s even hitting commodity and various industry level news…
- Lumber volatility hits 75-year high as inflation soars (National Mortgage News)
- Historic U.S. Gas Rally Sours in Single Day as Volatility Soars (Bloomberg)
- Expect continued volatility in airfreight market (Supply Chain Quarterly)
- Volatile supply chain tightens grip on aviation industry (AOPA)
- Traders fear volatile metal prices ahead of Winter Olympics (Telegraph)
- Why CRE Insurance Prices Are Becoming More Volatile (GlobeSt.com)
The increasing frequency of which we are seeing these ‘volatility’ headlines is telling and doesn’t paint a rosy picture for the market in general. For Traders however, it is a dream!
LAST WEEK’S ACTION
Big swinging ‘wicks’ — what a volatile week! Selling in risk continued after the previous week seemed to confirm a near-term top in US equities, but the dip quickly turned into a ‘buy everything rally’ across markets with the USD selling off, only to cave later in the week followed by a strong bounce in the last hours of the week’s trading, which I suspect was another bout of short-covering (more on this below).
Global equities mostly finished lower and interestingly the markets that have performed the worst yr/yr were the best performers last week (Hong Kong and Brazil). Looking at the best yr/yr performers which I look at to get a sense of broader sentiment:
SPX 20wma held as support while NIFTY has broken out of its consolidation rallying back towards ATH’s.
Daily charts show a far less bullish picture — SPX bounced off trendline support producing a higher low with bearish divergence, while the NIFTY is showing tentative signs of pulling back with momentum rolling over. These charts suggest we could see some upside at the beginning of the week after which, I’m inclined to believe upside to be shallow and the trade will to be to the downside for most of this week.
Rally in MSCI indices are being held by the 20wma and pivot levels above. Daily charts suggests there could be more to the bounce late last week, but a lack of momentum would, in my view, be early signs of equity markets pulling back towards the low-end of the recent range.
US equities finished flat to lower, mostly trading well below the recent ranges, while Energy (XLE) has put in an impressive week as result of the continuous rally in Oil and Gas prices. Growth sectors made new lows and closing below prior lows, Value sectors bounced from recent lows but was unable to make any progress on the previous week’s highs.
Volatility has been gradually turning higher since mid-2021, with the longer-term 50, 100, and 200 day moving averages now pointing up.
While I think we will see some accelerated selling in US equities via hedging flows again due to negative dealer gamma, I would remain wary of sharp squeezes induced from dealers short-covering like we saw last week, as observed by @spotgamma.
Downside risks to earnings and growth suggests weaker guidance and short-lived rallies. I think there will plenty of good opportunities to fade strength with an expectedly strong Q4 earnings season underway.
Looking at @allstarcharts heatmap, Commodity futures positioning is generally looking stretched on a 3 year perspective. The more we see supply chains easing and negative growth narratives building, the more I think we could see some mild capitulation in positioning, especially if USD takes a bounce like I think it will do (more below).
US yields are still on a bear flattening trend with front-end yields rising more quickly last week which appears to be reflecting fed tightening and economic slowdown narratives.
While the market continues to price in more hikes, as much as 4 this year, there is a growing number on Twitter that are skeptical of any more than 3 or even 2 hikes. And yet the Banks are calling for more saying the market is still underpriced. If the banks are right, there is likely to be another USD rally.
Meanwhile, 5year breakeven inflation continues to moderate towards 2% while yields are going higher and 10year real yields at the highest level since April of last year, giving further support to possibility of another USD rally.
There’s been quite a few instances of perplexity and confusion recently on why certain currencies and pairs have not reacted to cross-asset moves in their usual manner, almost as if in a state of shock with little directional conviction. It would seem this was all positioning related particularly in view of USD longs being very crowded. A Bloomberg piece citing MS and BNP suggests FX volatility will likely follow the elevated interest rate volatility…
…and technicals suggests the USD bounce is underway bouncing off the 100dma, 20 and 200 wma’s:
DXY chart from @pivotanalytics provides some extra technical perspective using DeMark counts which is essentially a market timing indicator, and suggests this correction leg is likely done.
A quick summary of the above that shapes my views for the week:
- Equities both technically and fundamentally is looking increasingly weak, while volatility is gradually increasing;
- Commodity positioning is looking stretched and vulnerable to mild capitulations in risk;
- Higher US real yields and potential underpricing of Fed hikes is likely to produce more rates volatility and stronger USD;
- DXY technicals making a strong case for the bounce.
Equities — limiting equity plays to intra-day trading as more chop through the earnings season is likely. I expect the bounce to continue to start the week, but looking to fade rallies than chase higher. I favour the more rate-sensitive Nasdaq for shorts, and Dow or S&P500 on tactical dips.
Commodities — I’m interested in shorting Crude oil after a continuous 5 week rally. Bullish momentum is beginning to moderate and I see scope for a pullback. I continue to like Gold shorts as an expression of higher real yields.
Forex — I like long USD ideas this week particularly GBPUSD to start the week and AUDUSD shorts both of which look ripe for the entry. Cable has been the strongest performer over the last month and has a strong technical sell signal from meeting strong resistance around 1.3750 and 200dma.
I’m also eyeing USDCHF longs due to Swissies mild correlation with Gold and Tech stocks, both of which I’m bearish on but not convinced by the price action (perhaps one for the long term book?). USDJPY is another obvious choice with US rates going higher but I’d prefer Gold short in this instance.
AUDNZD and AUDCAD shorts is on the radar for the longer term book; RBA is considerably less hawkish than RBNZ and BOC where the market is pricing in at least 50bps more than the RBA, which should provide strong tailwinds for these relative value trades. AUDNZD looks ripe to begin positioning for, and I will be waiting for a pullback in Oil for the entry in AUDCAD.
Thanks for reading, and wishing you a profitable week!