The financial industry is structured to keep you invested in a 60/40 stock-bond portfolio. Narratives are carefully crafted to downplay the upside risks to inflation and the downside risks to growth. Why? Because if you believed inflation would rise and growth would fall, you would immediately exit the system and hold cash or even short bonds in order to benefit from the volatility. If you move into cash, the fees that go to the establishment decrease, and their relevance comes under scrutiny.

The financial establishment is not the only problem, though. Investors are just as much at fault as financial professionals. Investors hate thinking about risk and want massive returns handed to them on a silver platter without putting in any of the work that is required to achieve those returns.

If you think showing up gives you the right to success, you are making a bigger policy error than the Fed. There is no getting around actual risk-taking in life. You can give your money to an advisor or hedge fund and just pray and hope for the best, but hope isn’t a strategy. Many people want to trust others just because they can’t stand the idea of taking accountability in their own lives.

It doesn’t matter if you invest with a financial advisor, directly invest in a hedge fund, make private investments, or start your own business venture; the only person who is responsible for your returns is YOU.

The entire point of this is that when you look at the system, you need to remember that ALL of us are risk takers. We make decisions, we make errors, and if you expect everyone to always get it right, let he who is without sin throw the first stone.

The Fed makes policy errors just as much as hedge funds and traders (myself included) make errors. The difference is that policy errors by the Fed impact the entire global monetary system. Interest rates are the asymmetrical linchpin on which the entire financial system turns, and the supply of money is directly linked to interest rates.

(See the entire macro picture breakdown from my most recent video: link)

Kevin Warsh’s Misleading Statement:

So when we see Kevin Warsh make statements today that they want to get inflation down to 2%, that is what they are saying, but what are they actually doing? They paused today and made ZERO attempt to guide more hikes into the forward curve.

It doesn’t matter if Kevin Warsh believes in forward guidance or not. If the forward curve starts pricing FEWER hikes while inflation is rising, it does the OPPOSITE of their policy goal. Easing rates into rising inflation stimulates inflation and opens the gate of credit, allowing MORE money to flow into the economy from financial institutions.

Warsh says they want to get inflation down, but they are actively deciding to ignore clear inflation signals. The implication is clear: Actions are louder than words.

If they wanted inflation lower, they wouldn’t have paused today. There wasn’t a clear answer given for WHY they paused today. It was “just what they did so they could wait.”

Wait on what? Why aren’t the current signals significant enough to merit a hike?

Let’s just look at WHAT is happening in the economy right now and then connect it to the Macro Intelligence Pack (linked below).

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If you are trying to understand HOW flows are moving markets and WHY AI rotations are taking place, this video is an in-depth explanation of it.

Transcript for video:

2026 10 27 07 50 27 Transcript

42.2KB ∙ PDF file

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Download

YouTube link for video: LINK

Macro Intelligence Pack:

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Deregulation has fueled the entire liquidity cycle and credit issuance since Trump took office at the beginning of 2025. Deregulation is a less explicit element in financial markets because it influences all of the headline numbers we see but never gets the credit for it. CEOs are going to attribute their stellar performance to their own execution, not the deregulation environment. When things get bad, it’s the environment; when things are going well, it’s because of leadership’s execution.

Traders are paid a premium to see through the forward guidance of CEOs to the actual dynamics taking place. Ken Griffin drew attention to the massive change from the regulation under the Democrats and the Biden administration to the far more positive environment the Trump administration has created. Traders and money managers are paid to provide accountability to the market when expectations become delusional.

The Rules Are Changing:

The regulatory regime for AI, the midterms, and the Fed are all coming to a boiling point that will culminate over the next month. When half of all index returns come from AI, this is quite literally a moment that will determine the entire market. The entire AI trade is based on HOW FAST the capex produces a return, and a shift in regulation can slow the pace of everything.

The catalysts for each of these moving parts are already on the immediate time horizon as the midterms will be resolved at the beginning of November, the long-anticipated Anthropic IPO will occur in mid to late November, and the market is pricing a Fed hike in December. Each of these catalysts will incrementally build on the others and shift the rules driving flows in markets.

If you felt like the market was getting difficult to navigate, it is about to get a lot harder. The bar for trades will rise in 2027 because Democrats are taking more control, the Fed is falling behind the curve and will have to play catch-up to inflationary pressures, and the Anthropic IPO is about to provide a lot more visibility into HOW MUCH demand exists for the Neoclouds and Hyperscalers. All of these will reframe the distribution of probabilities, and thereby flows, as we move into the end of the year and the beginning of 2027.

The Regulatory Cliff:

During Biden’s presidency (2021–2025), Democrats had full control of both the House of Representatives and the Senate for the first two years, and then split control for the remaining two years. The Biden administration held a government trifecta during its first two years, which functionally gave it unified control of the government.

This is WHY, when Trump won the election, the entire political regime flipped from Democrat to Republican. For the last 2 years, Republicans have held a government trifecta, which is why so much deregulation and change has occurred in such a short period of time.

The biggest risk to the AI trade and the U.S. economy is Democrats taking control of both houses, because this will put the entire political regime into gridlock. The entire question moving the market right now is whether Democrats sweep BOTH houses. We are already seeing the AI regulation basket move in lockstep with the odds of a Democratic sweep.

The midterms have heightened importance because so much of AI is leveraged to them at the same time that the capital structure is growing increasingly fragile and all of the index returns have come from AI.

This is what brings us to HOW MUCH pain will be felt in financial markets from the midterms, since we are already seeing the value chain around AI deteriorate. You can see that the Neoclouds and Neocloud lenders are the purest expressions of supply and demand for compute. Think about Neoclouds as the guys who go and build out a datacenter, put chips in it, and then rent out the compute to Hyperscalers while we wait for all the capex to come online. Neocloud lenders provide all of the debt to build all of these datacenters. When we pull these factors together, we can begin to see the risk curve in the AI space, with Neoclouds and Neocloud lenders on the far end of the curve while AI chips and Hyperscalers carry less risk due to their other revenue sources.

The historic level of capex in the index has brought us to a moment where tech needs to deliver or else the regulatory regime could begin putting some real selling pressure across names.

Alpha Generation and Trades:

The context above frames HOW traders and hedge funds are positioning into the next 2 months. There are significant gaps in expectations forming around how the market is positioning into the midterms, Fed policy, the Anthropic IPO, and CAPEX spending vs. expected returns. Understanding these moving parts will frame the strategy for taking trades in equities and rates.

I want to structure this section as follows:

• Midterm flow analysis and implications for sectors

• Anthropic S1 and IPO date

• Capex Spending vs. expected returns and its impact on sector rotations

• Fed policy relative to inflation and regulatory regime

• Trading Opportunities

Midterms:

When the final announcement that Trump had won came in 2024, there was a massive rally because hedges were unwound. Market participants didn’t truly understand how bad the regulatory regime was under Biden until it ended. The Russell rallied the most during this time because the expectation of growth in the underlying economy dramatically changed under Trump. CEOs and financial institutions were functionally given the green light to put on a ton of risk. You can see that the day Trump won, there was a massive green candle in the Russell and the VIX got absolutely crushed. This marked a short-term top in the market, but only because Trump decided to begin his term with a tariff war to push back on China. If the tariffs hadn’t occurred, the equity market would have likely just started melting up on all of the deregulation, similar to the back end of 2025.

The deregulation, and the certainty of it with a Republican sweep of both houses, gave the Hyperscalers the green light to spend a massive amount on capex. One company’s capex is another company’s revenue, which means the money Hyperscalers spent on compute went to the companies that actually build it out.

Who received all of this money? Materials, energy, and industrials.

As we move into the midterms, the question everyone faces is HOW MUCH deregulation will slow. We already know that a Republican sweep is not going to happen, which means it’s all about whether the Dems take the House and the Senate or just the House. If the Dems take both the House and the Senate, this is a real risk for the regulatory regime because, no matter what, it’s going to be constant jawboning for the next 2 years.

Right now, the market is likely pricing some risk premia around it, which is why we have seen some selling pressure and rotation in the AI regulation factor. You can see that we have been in a range for months now. The midterms are only one factor contributing to this. The Neocloud risks, Hyperscaler capex, and Fed policy have most certainly created a fragile environment as well.

As we progress into the midterms, if the Dems only get the House and lose the Senate, then I would expect short-term hedges to unwind and set a short-term bottom in the AI trade as the market looks toward the Anthropic IPO (we just got the S1 today). If the Dems don’t win the Senate, then moving into the end of the year, I would expect a more neutral-to-positive environment on the regulatory front. If the Dems do sweep, this could be a major hurdle for AI policy for the next 2 years, especially as it relates to power, permitting, and scrutiny of the grid. If we see regulation increase at a time when credit issuance for the sector is decreasing, this can hit margins and create defaults.

Now, to be clear, this dynamic is already well documented in the active trading space. I noted earlier this year in many of the reports and livestreams that all of my contacts in the compute space were expecting defaults in Q1 of 2027 due to the amount of debt rolling over relative to GPU residuals.

When Chamath and Elon are chatting about this on Twitter, it’s not some divergent view:

Now that we understand how midterm flows are interacting with the AI space, let’s dig into the Anthropic IPO and how it connects to the midterms.

Anthropic IPO:

The Anthropic S1 was just released today, along with the Hyperliquid contract for it:

https://app.hyperliquid.xyz/trade/xyz:ANT

This will be THE most important chart to watch moving into the midterms and the Anthropic IPO because it directly connects to the regulatory regime as well as the catalyst flows from the midterms. If we see hedges start to unwind in the AI Hyperscaler and Semi space, with vol premiums decreasing at the same time this Hyperliquid contract starts to rally, it is very likely that we rally into the Anthropic IPO, especially if the Dems don’t take the Senate.

The Anthropic S1 is the first time we are getting clarity on the circular financing of the entire AI space because they are required to disclose WHERE they stand. Remember, one corporation’s investment is another corporation’s revenue, and vice versa. So these circular flows MUST net out, and the risk will be expressed.

The Anthropic S1 document is a direct order book for the compute supply chain through 2028, with a single buyer committing well over half a trillion dollars, almost all of it on other people’s balance sheets. Demand is real, broad, and still shallow in penetration, and lower price per task has driven more spend rather than less. The risk section reads as a list of what breaks it: agentic compute intensity outrunning price, open-weight commoditization, power, a startup-heavy customer base with a fixed cost base, and a growth rate management says will fall.

MAIN TAKEAWAY: Anthropic has committed to buy more compute over the next five years than any single hyperscaler spent on capex in 2025, and its payments peak in 2027 and 2028 at roughly a seventh of what Microsoft, Alphabet, Amazon, and Meta are expected to spend combined. That makes it the largest identifiable end customer of the capex cycle. The commitments are take-or-pay, so from here the question for the cycle is not whether the orders exist but whether Anthropic’s revenue can grow five to six times in two years to pay for them without the margins management already says will compress.

Anthropic’s revenue is one of the single most important data points for answering the question of whether Hyperscaler capex will have a return.

You can begin to see that clarity into Anthropic’s revenue, and the demand it provides for compute, is THE direct input into WHEN the Hyperscalers will see a return on their CAPEX and HOW MUCH credit risk will be priced in the interim.

Capex Spending vs. Expected Returns:

Who are the largest capex spenders? GOOGL, META, MSFT, ORCL, and AMZN.

These names are the largest spenders and thereby the largest providers of compute. Once OpenAI goes public, Anthropic and OpenAI will be the two largest compute consumers.

This means that in the interim, if there is a massive surplus of compute relative to the pace of demand, these names, along with the Neoclouds and downstream factors (AI power and materials), will rise or fall on the factor risk curve depending on upstream demand. Simply put, if Anthropic’s revenue starts stalling out, this will impact compute providers, which will in turn impact AI energy and materials providers.

However, we can see that the Neoclouds and the compute providers taking on liabilities take the majority of the hit.

This is WHY GOOGL, META, MSFT, ORCL, and AMZN are seeing significant dispersion right now.

1. Oracle is the levered pure play. Capex is four-fifths of revenue, exceeds operating cash flow by three quarters, and is funded with $43B of debt plus $5B of equity in one fiscal year on a Baa2 rating with a negative outlook. The backlog is enormous, but half of the AI RPO is one customer. On the way up it re-rates on every RPO print; on the way down it is the first name where the market asks whether the financing closes. Both tails are widest here.

2. Meta is the highest-beta big-4 name, for a different reason. Capex has crossed operating cash flow and the company has no cloud customer paying for the compute. The entire outlay is a bet on its own ad and AI monetization, so there is no backlog to point to if sentiment turns, and bond issuance is now part of the funding. The downside beta is high because the market can only judge the spend by ROI, and the upside is capped because nobody else’s commitments flow through its P&L.

3. Microsoft is in the middle. Intensity is high once finance leases are counted, but it is the only one of the five still free-cash-flow positive, and it has the broadest contracted demand across OpenAI, Anthropic, and its own software base. It also pushed a lot of capacity to neocloud leases, which moves some beta onto CoreWeave and Nebius. Medium-high beta with the best balance-sheet cushion.

4. Alphabet has the best asymmetry. Capex intensity is lower than Meta or Microsoft on revenue, yet the TPU franchise gives it the largest single externally contracted demand of the five, worth more than a year of its own capex from Anthropic alone. Free cash flow dipped negative and buybacks paused, which is why the stock sold off on the raise, but it is the clearest beneficiary of the Anthropic stack we modeled. Medium beta, skewed up.

5. Amazon screens lowest at the equity level and highest at the segment level. Retail dilutes the ratio to under 30% of consolidated revenue, so the whole-company beta is the lowest of the five. Strip it to AWS and capex runs about 1.5x segment revenue, with free cash flow negative at the segment level for years. Trade it as a low-beta consolidated name with a high-beta cloud inside.

The regime change applies to all five. A year ago, all of them funded capex out of operating cash flow. Today, four of the five spend more than they generate and are issuing debt. That raises the beta of the whole group, because the marginal dollar of capex now depends on credit markets and on customers like Anthropic actually paying their take-or-pay bills, which is exactly the chain the S-1 risk section describes.

You can begin to see why META’s fundamental returns (purple) are about to turn negative and have converged marginally with CoreWeave. https://www.tradingview.com/chart/eiOfsMWn/

The same is true for GOOGL: https://www.tradingview.com/chart/qorWL7bW/

Owning downside puts on META and GOOGL into the midterms is a good expression of further downside and contagion in the compute space without needing to short the Neoclouds. Downside exposure in these names pairs well with long exposure in the Russell or financials. This is especially attractive in META given that the Muse release is behind us and all of the fundamental returns from it have been unwound.

At the end of the day, the Anthropic IPO is going to price a ton of idiosyncratic risk into the market, and factor flows are going to change significantly because there is going to be a lot more clarity on the circular financing between the Hyperscalers, Neoclouds, and Frontier Labs.

All of this brings us to the larger macro risks surrounding the Fed’s stance towards inflation and capex growth.

Interest Rate Risk:

One of the primary drivers of growth has been the capex spending from Hyperscalers, which is adding capital to nominal GDP at the same time a supply-side shock is occurring. I already explained my views on rates here:

And here:

What I want to focus on in this section is HOW interest rates are connected to these changes in AI, the midterms, and macro volatility in the system.

The Fed’s passive stance, matched with the repricing of the forward curve, has begun to set the stage for another policy error. The forward curve is now pricing a pause at this meeting and a hike at the December meeting, with only 77bps of hikes to the terminal rate.

Notice that the recent pullback in rates has been almost exclusively driven by term premia (blue bars). This means the move in rates is primarily a repricing of expectations for long-term nominal GDP as opposed to being driven by an active Fed.

What parts of long-term nominal GDP are repricing during this period? You will notice that traders rotated out of SMH, CRWV, and XLC at the same time they bid bonds on the margin. The shift in expectations around capex with the midterms and the Anthropic IPO I noted above is very likely connected to the recent pullback in long-end rates. However, the problem is that the structural forces for growth and inflation have NOT changed in a durable way.

Notice that even on the short end, inflation swaps have been rising as real rates have been falling. This means the Fed has been less active and thereby less restrictive in its stance at the same time inflation expectations are rising.

As I explained here, the wealth effect is currently exerting inflationary pressure on the US economy at the same time CAPEX spending is elevated, a supply-side shock is occurring, and the deficit is running hot.

All of these factors are occurring as inventory-to-sales ratios are near 2021 levels, when inflationary forces were building. Simply put, the supply and demand structure is currently out of balance at the same time demand forces and the supply of money are increasing. As this takes place, the Fed is not even maintaining a restrictive policy.

WHEN the Fed finally has to play catch-up, they are going to need to hike, which will bring risk assets down given the valuations we are seeing. If they don’t hike, they are going to cause long-end rates to spike as the curve bear steepens, which will also likely cause equities to sell off. The bigger risk is if we see the dollar fall against major currencies while this takes place, because foreigners are exiting USD-denominated exposure due to the fall in real returns. Remember, foreigners make decisions based on their dollar-hedged returns, not just S&P 500 returns. Read this article if you are trying to understand this dynamic:

Trading Opportunities:

We have covered multiple layers that are likely to drive markets. The midterms represent considerable risk depending on whether the Dems take the Senate; the AI risk curve is becoming much clearer with the Anthropic IPO; some of the Hyperscalers could get smashed with selling pressure due to their increased compute exposure (Meta); and the growing imbalance in the economy could create some real risks for interest rates.

There are two things to consider when expressing trades in this environment:

• First, headwinds for equities are increasing due to the macro risks (see my video here). This means that identifying idiosyncratic returns without exposure to broad beta or the winners of the last 2 years will be important.

• Second, interest rate risk is going to drive a lot of volatility over the next 2 months. It is very possible that the Fed is waiting until after the midterms and the Anthropic IPO to get super hawkish. If this takes place, shorting bonds will continue to be an excellent macro trade as long as the Fed stays behind the curve. Once the Fed plays catch-up, flatteners will be an excellent expression along with being long vol. We are not at this moment yet, but we will receive more clarity at FOMC this week.

Trade Ideas:

The dispersion between GOOGL, META, MSFT, ORCL, and AMZN is likely to intensify as the Neoclouds maintain their downtrend. Simply put, GOOGL, META, and ORCL are likely to underperform MSFT and AMZN.

Once Anthropic and OpenAI begin to indicate that compute demand is coming online in excess of supply, ORCL will begin to show fundamental returns turning positive across multiple time horizons. You can see that fundamental returns (purple bars) have functionally been negative, indicating that the build-out by Ellison is not yet contributing positively to the company. The Neocloud factor carries greater risk than Oracle, but if it keeps falling, it is likely a net drag on Oracle until the broader AI regime changes and the data centers actually come online.

CoreWeave has been the focus of a lot of the selling pressure because it’s the largest Neocloud, with the greatest sensitivity to compute, since the Hyperscalers’ full capex build-out hasn’t finished yet. You will notice that implied vol has risen considerably to price in the downside.

Ironically, all of the crypto bros who were doing Bitcoin mining pivoted to AI compute at the very moment it went into the dumps (classic). Galaxy Digital and IREN have been decimated for pivoting. The divergence that has taken place is that Bitcoin and Hyperliquid have actually reconverged in their correlation and are outperforming all of the companies that pivoted, despite a marginal pullback from the highs. As we progress through the midterms and AFTER FOMC, I would begin to look for short-term bottoms in BTC and HYPE, especially HYPE into the Anthropic IPO.

We already have some significant vol premiums in the index moving into FOMC. As long as the Fed maintains its policy-error stance and doesn’t try to turn more hawkish before the midterms, we are likely to see hedges unwind in the main index. Being long the Russell and the Dow are likely good ways to play this given their positive momentum off last week’s lows. The things to watch closely are the rotations and risks in the AI supply chain, because if capital starts to rotate out, the index will see a massive squeeze.

I continue to emphasize that there are significant risks and headwinds in markets. Massive directional bets on the index continue to have minimal risk-reward, but the moment my strategy turns bearish, I will publish it. This will likely overlap with the yield curve breaking out of its range.

We have covered a lot, and we didn’t even get to how the carry trade and dollar trades fit into this. This is what I will cover tomorrow in the next article.

In the interim, I would encourage you to use the free MCP on the Liquidation Nation Website: LINK. This is the single greatest tool for understanding these factor flows, and it’s 100% free.

Thanks.

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I framed the initial points for these risks in the report linked here and expand on them in the video below.

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The net result has been nominal GDP running significantly above trend and equity valuations sitting at elevated levels at the index level.

This is true for the S&P 500:

As well as the NASDAQ:

If you read the report on how AI capex is linked to term premia, then you understand that the larger context is one where we are priced to perfection in many areas of the equity market and interest rate space.

This is WHY it is critical to understand HOW sustainable the liquidity environment is, because this frames HOW AGGRESSIVE you should be in taking risk. This is what we will cover below.

Interest rate and equity strategy pack:

Before we dig in, you can find the most updated regime models mapping WHERE we are in interest rate risk, FX flows, and equity rotations here:

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This model quantifies the interest rate regimes that matter for managing interest rate risk. The three panels represent the three angles from which to systematically analyze that risk: interest rate volatility, positioning, and directional skew. When all three align in the same direction, large moves in rates always occur.

This model will be updated and sent out daily to paid subscribers. The full PDF is below, along with a short analysis of how this frames positioning into FOMC.

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US interest rates are at decade highs, the war in the Middle East continues to push an inflationary shock through the system, and the Eurozone is experiencing a sovereign debt crisis on a scale not seen since the 2010s.

These events are only the beginning of the volatility that is going to take place over the next 18 months. The problem that compounds this volatility is that the entire financial industry is set up to be long stocks and bonds without managing interest rate risk. If you talk to anyone on the institutional side or in the private wealth space, there is no playbook for when stocks and bonds go down together as they did in 2022.

Interest rates, FX flows, and macro liquidity sit at the center of the risks in the financial system today because ALL of the debt is on the government balance sheet.

The capital flows in France are showing a crisis where investors are forced to sell both stocks and bonds, which results in equity markets falling at the same time that interest rates rise. The implication of this is that THE main thing Eurozone investors need to manage is interest rate risk.

If you have been following the work I have been putting out on the Eurozone, France, and global trade imbalances for years now, you will know that this crisis in France is only the beginning, and it will eventually manifest in a different form in the United States. I wrote an entire report on it here:

Interest Rate Intelligence Breakdown:

Over the last month, I have been doing a lot of traveling for in-person research and meetings for the next stage of Capital Flows. I will resume sending out the daily models mapping HOW flows are taking place across rates, FX, and equities. You can find the most recent one here:

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This change in rules for free-floating currencies has been one of THE major drivers in every credit cycle melt-up and financial crisis over the last 40 years, but it is the most misunderstood. The focus in the media has been on “dollar devaluation” as if that is the magic solution for risk assets to go up over time and a crisis to be avoided. The misunderstanding about how free-floating currencies function in the modern world of globalization has created an environment where anyone can jump onto the narrative and promote any asset that they want.

I have already explained HOW China is utilizing the market forces of free floating currencies to tip the odds of global power in their favor. The relationship between the US and China will define the next crisis but this time it won’t look like anything we have seen in the past.

The seductive lie that governments can print their way out of any crisis and that devaluation of currencies means risk assets can go up forever is coming to a day of reckoning as countries are being pushed into a corner.

I will remind everyone: policymakers AND everyone in the media industrial complex are responsible for the crisis that is coming one day. On one side of the spectrum, you have doomers who refuse to be part of the solution because they don’t understand the problem and on the other side you have naive optimists who think that the devaluation of the currency can go on forever without any consequences. These narratives are used as platforms to monetize attention instead of injecting accountability into the system.

This is why systemic risks build in the system and we are on the edge of seeing them materialize. Europe is leading the US in their complacency because they have allowed China to hollow out their industrial base. As a result, the government is being forced to spend more than they make in order to keep the economy propped up. There is no turning back for Europe from the path they have gone down, there is only limiting the damage through difficult decisions. France is the first to send a signal about the lie about “devaluation solves all problems.”

French policymakers and investors who foolishly believed the lie about “dollar devaluation” are now paying the price for their sins. Yields in France are blowing out vs. German yields and Euro swaps showing that if France wants to borrow, the market is going to charge them in alignment with the actual risks that reflect their incompetence.

Equities are not immune to the consequences that are materializing. The French stock market (CAC 40) is down considerably as investors are realizing that the promises of “money printer go brrrr” are empty, and they believed a lie instead of conducting a counterattack against Chinese currency manipulation. The French stock market is already illustrating this dynamic but Eurostoxx (blue) are underperforming US stocks as the systemic risks for Europe growth and higher crude prices hurt Europe the most.

Traders believe it is virtuous to keep politics out of markets despite policymakers being THE largest driver of interest rates and FX. Many traders turn to quantitative methods to extract alpha because they can’t separate their desire for how they want the world to be politically from how it actually functions.

Politics and regulation are such important factors to understand when trading interest rates and FX when the time horizon is greater than a few days. In today’s world, everyone has become a short term momentum trader which is why we continue to see quant shops have significant alpha decay and constraints to scale. On the flip side, all of the real macro traders have retreated into the shadows because the way that the world actually functions isn’t palatable to the public. The world would rather have a shot of dopamine than a hard conversation that brings accountability.

I explained the structural factors for WHERE we find ourselves in the United States today here. What I am going to expand on today is HOW to think about US interest rates and WHY the recent price action in French OATs (government bonds in France): Please read yesterday’s report so you understand the context

Trading A Sovereign Debt Crisis:

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You need to get the big things right

Most people are focused on being right in all of the ways that don’t matter

Growth, Inflation, Liquidity:

MAIN IDEA: We are in a period where growth is running significantly above trend at the same time as an energy shock. The growth that is taking place is due to 1) AI capex increasing the amount of investment in the economy, and 2) New AI models disrupting and benefiting companies across the economy. If you understand these big ideas, they will frame HOW the short-end interest rates are mispriced as well as the directional skew in equities.

Paid members of Capital Flows are well aware of both the views and execution in bonds. The imminent flows that would create significant selling pressure in bonds were explained at the beginning of September. I also provided real-time models that map the flows and volatility in order to align the macro thesis with real-time execution. These can be found in this report:

Even in August, I laid out that the terminal rate was too low relative to the amount of growth and inflation in the economy (link): From August report

When trading interest rates, you only size up for a directional bet when BOTH the drivers for short-end and long-end rates are significantly mispriced. When only one of them is mispriced, this is when expressing a view with a curve is likely more beneficial. Mispricings in interest rates ALWAYS lead to dramatic changes in macro liquidity and the credit cycle.

Even if there is inaction by the Fed or long-end interest rates become mispriced relative to the economy and financial conditions, the amount of money in the underlying system will begin to get significantly cheaper on a real purchasing power basis, which will push capital out the risk curve and cause a significant rally in risk assets as valuations expand.

If you want to understand macro liquidity or the credit cycle for your equity positioning, it is impossible to understand it without understanding interest rates.

Let me say this again, IT IS IMPOSSIBLE TO UNDERSTAND MACRO LIQUIDITY UNLESS YOU UNDERSTAND INTEREST RATES.

If you don’t understand macro liquidity, then all you are doing is using the momentum in risk assets as your signal. This is totally fine, but it just means you’re operating at a significant disadvantage.

(There is a reason I turned neutral bonds and bullish ES at the same time. The ES long I shared with paid subscribers has been printing. See here: link)

For example, AI is clearly causing a dispersion and disruption in the labor market. Ever since ChatGPT was launched in 2022, jobs are decreasing in the information tech and financial activity line items of nonfarm payrolls. This disruption in the labor market is moving in lockstep with how equity flows are pricing the disruption, as reflected in the Goldman Sachs AI beneficiaries vs. at-risk:

The labor market on net is growing every month, but there are significant rotations UNDER the headline number, which is not shocking at all because significant rotations are taking place in the equity complex too, as tech and AI names account for the majority of changes in the index:

It is well known and completely priced into markets that a massive data center build-out is taking place.

The CAPEX build out disproportionately benefits the names in the index with the highest weighting: technology, which accounts for 40% of the index weighting. You will notice that the technology sector contributes comparable amounts of revenue to the topline index revenue, but it’s the sector that contributes significantly more bottom-line earnings. Simply put, tech doesn’t produce as much revenue as other sectors but it contributes significantly more profits which is why it’s weighted MORE in the index.

Revenues for more than half of S&P500 sectors are greater than those of the tech sector:

EPS is where the divergence becomes explicit. Tech is the largest contributor of earnings, accounting for 30% of EPS.

Why does this structure matter? Because the technology sector is roughly on par with other sectors in its contribution to top-line growth but not bottom-line earnings. So when nominal GDP is running at 6.3%, we are seeing top-line growth, NOT bottom-line profits. GDP is about the total growth in the system, not the profits that result from it.

However, the amount of corporate profits from tech and the Mag7 is important to understand because these profits are what are being recycled into capex spending. Notice that the communication services, consumer discretionary, and information tech sectors account for functionally all of the capex since 2024:

Which companies in these sectors are driving capex spending? In the communication sector, it’s functionally all GOOGL and META (both Mag7 companies):

In tech, all of the spending is concentrated in MSFT and ORCL:

Which makes sense given how much both have underperformed the index because they are sacrificing present cash flows for future profit:

The final sector that has contributed a lot of capex to the S&P500 is consumer discretionary, but this is almost exclusively from Amazon:

Notice that as soon as YoY capex for AMZN begins to rise, AMZN price vs the index just starts moving in a range. Similar to MSFT and ORCL, AMZN is spending now to increase profits later:

Remember the main idea we started with: the underlying dispersion in equity fundamentals and the growth/inflation data frame WHERE we are.

If you understand WHERE we are, then you will understand WHAT opportunities exist, and this brings us to the opportunities in interest rates and equities right now, where I am focused on running trades.

Macro Trades:

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“A lot of people in our industry talk about pattern recognition as a positive attribute. We actually talk about pattern recognition as a negative attribute. It actually prevents you from seeing the world differently. It prevents you from seeing what the world can be.”

“Rules are things that we learn as adults. And in reality, when you’re younger, you’re completely unconstrained with regards to the ways in which you see the world. And I actually think naivety is such a powerful thing.”

“Rick Rubin has this incredible line in his book, which is pay attention to what you notice that no one else sees. Rules are limitations. Rules, artists learn, are assumptions. They’re not absolutes.”

Josh Kushner, Invest Like the Best, Building Thrive Capital

The moment risk is put on in a trade, we are tempted to think about it differently. This shift in thinking is not emotional, based on how well or poorly the trade is going; it is about how we become less receptive to new ideas, even though we feel like we are consuming every piece of information about the market.

This shift in thinking is similar to reading a book. You can read for twenty minutes, taking in the words without listening to what they are saying, and realize you have to go back and read it properly. You can also read a book looking for one specific piece of information, and read so intently for it that you begin ignoring everything that is not that piece of information, which leaves you less receptive to any of the other ideas in the book.

When a view of the world is expressed with actual risk-taking, there is a dramatic pull to become less receptive to new ideas and tunnel vision on only the information that is relevant to the specific place we feel the most pain or reward.

If you trade in markets, you will always recognize patterns, but that doesn’t mean you’re being receptive to experiencing clarity and differentiation that comes with new ideas. I shared the quote above from Josh Kushner on this idea, where pattern recognition has become the defining characteristic of the “reverse-engineered principles” we are fed every day for “success.”

The podcast Josh did was one of the best I have listened to in a while (and truthfully, I don’t listen to many these days). One of the ideas that I have been thinking about is realizing how people (myself included) will shape how they interpret the world around their own rules of risk tolerance and risk management, instead of being part of the process of how the market and economy are evolving and creating the best work possible in that process.

It sounds counterintuitive because it is.

Examples of pattern recognition limiting you from your best work:

• Reverse-engineering the social media algorithm: Studying what the feed rewards and reshaping the creative focus around it. The algorithm can only reward what has already been seen and is efficient at doing it. Social media as a medium is incapable of rewarding you for focusing on the unseen and what could be. It might reward you for creating your best work but won’t give you guidance into WHAT that work is or WHERE to start.

• Following reverse-engineered principles: Identifying patterns and reverse-engineering principles from someone else's success in an effort to imitate them. Following them means someone else is your starting point for thinking when true art and monopolies are impossible to reverse-engineer despite their output appearing simple.

• Building products around a pattern: Financial products are created around what has already been recognized. Leveraged wrappers, single-strategy hedge funds, concentrated retail volume, social media attention fixed on a few assets. None of them create anything new. They only amplify, and only when the move aligns with the rules they already follow. A product engineered from what the world was cannot express what the world can be.

• Hedging the last regime’s risk: The risks expressed in 2008 and 2020 were deflationary credit events, so the hedges built afterward were built for that. Overhedging a risk pulls positioning away from it, which lowers the odds of the risk being expressed there at all. Then 2022 arrived with inflation, and stocks and bonds sold off together. The same error is running forward now. The 1970s have become the parallel for oil shocks, despite global trade, geopolitics, and the weight of oil in GDP being so different that a comparable transmission mechanism cannot exist.

  ---

So what are the things that no one sees right now? I want to cover three that I have been thinking about.

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Why are the opportunities in global macro only going to increase over time? Because we have entered an era where global trade is the highest it has ever been in history. This means countries are cross collateralized in their capital flows to a degree that has never been seen before.

The implication of this environment is that WHEN geopolitics and policy change HOW capital flows, the reverberation will be greater than it has ever been in history. While everyone is focusing on the idiosyncratic risk of specific AI companies, they are missing the larger environment that is determining WHO can even buy those companies in the first place.

For example, the Korean won has been in a decade-long range and failed to break out in either direction. As countries realize that they need to prioritize their own national interest, so that they can either have leverage over enemies or provide value to allies in order to maintain protection, they implement regulatory change and innovation follows.

The reason I am using South Korea as the example is that it is the most direct link between policy and the AI trade that exists outside the United States. Samsung and SK hynix make the memory that goes into every Nvidia GPU, which means the KOSPI is the first flow on the AI trade every single day. It prints in the Asia session before the Nasdaq opens, and if you have been watching the price action you know that semiconductor flows in Asia and semiconductor flows in New York have become the same trade expressed in two time zones. Foreign investors buy Korea as the levered expression of AI capex, Korean retail buys US tech, and SK hynix now trades in the US. What is critical to understand is that the KOSPI is not trading Korea, it is trading the marginal dollar in the AI trade, and WHO controls that marginal dollar is determined by policy.

This is exactly the point I made above. Everyone is focused on the idiosyncratic risk of specific AI companies while the larger environment is determining WHO can buy those companies in the first place. Korea changed that environment in two years, and the order in which it happened is the whole point. Think about the policy changes deductively instead of as just a list of headlines. Every one of them falls into one of five buckets, and each bucket frames WHERE capital flows.

Political mandate: who is running the reforms

• Martial law, December 3, 2024: declared and reversed inside six hours, the president impeached, the won to 1,480. The political tail risk that always kept Korea cheap became visible to everyone at once.

• Lee elected, June 3, 2025: the snap election was won on a platform with a KOSPI 5000 target written into it. From that point the index level was tied to the government's approval rating.

Corporate governance and tax: who gets the cash flows

• Value-up, February 2024: the Value-up Program pushed listed companies to publish plans to lift return on equity and price to book, Korea's version of the Tokyo exchange reform.

• Fiduciary duty, July 3, 2025: the Commercial Act was amended so directors owe a duty of loyalty to shareholders and not just the company. On August 25 the second amendment added cumulative voting and separate election of audit committee members under the 3% cap. This is the legal root of the Korea discount and it changed in two votes.

• Dividend tax, December 2, 2025: dividend income from high payout companies moved to separate taxation from January 1, 2026, at 14% up to 20 million won and 20% above that. This is what made Korean stocks competitive with real estate for Korean household money.

Market microstructure: how capital gets in and out

• July 2024: FX trading hours extended to 2am Seoul, registered foreign institutions allowed to trade the won onshore for the first time, Korea Treasury Bonds made eligible for Euroclear. Short selling came back at the end of March 2025 after a 17 month ban.

• FX roadmap, September 29, 2025: the finance ministry committed to 24 hour won trading from July 2026 and an offshore won settlement system, with the stated goal of MSCI developed market status.

• 24h FX and the ADR, July 2026: the FX market went to 24 hour operation on July 6 and SK hynix listed on the Nasdaq on July 10, raising 26.5 billion dollars in the largest US listing by a foreign company ever. The offshore settlement pilot started in September and goes live in January 2027.

Index inclusion: who is forced to buy

• Bond index, October 2024 to November 2026: FTSE Russell announced Korea's inclusion in the World Government Bond Index in October 2024, and the first of eight monthly tranches went live on March 31, 2026 at a 2.08% weight. That is passive sovereign money buying won every month through November regardless of the headlines.

• MSCI, June 2027 at the earliest: MSCI kept Korea off the developed market watch list in June 2026 because it wants a full year of observed 24 hour trading. Every global allocator knows the date and front runs it the same way they did the bond index.

Monetary and FX policy: what happens to the dollars

• Pension fund hedging, December 2024 and December 2025: the National Pension Service was given a mandate to hedge up to 10% of its foreign assets when the won deviates too far from its long-term average, backed by a 65 billion dollar swap line at the Bank of Korea and extended through the end of 2026.

• Exporters told to convert, June and July 2026: the government asked exporters to bring dollar proceeds home immediately instead of holding them offshore.

• BOK hikes, July 16 and August 27, 2026: the Bank of Korea hiked twice to 3.00% and lifted its 2026 growth forecast from 2.6% to 3.3%, narrowing the rate gap with the United States.

Now look at what the KOSPI actually did with this, because the order matters more than the headline. The first leg of the rally, from the December 2024 low through the middle of 2025, happened before the earnings showed up. Forward earnings barely moved and the market simply stopped pricing Korea at a discount to its own history. That leg was the regulation and the politics: the election, the fiduciary duty vote, and the sense that the discount finally had a reason to close. It also happened with foreign investors as net sellers, which tells you domestic money re-rated the market first. Everything after that was earnings. From late 2025 into the June 2026 peak the index more than doubled while forward earnings roughly tripled, and the multiple actually went down. In simple terms, regulation set the floor and the trade balance built the tower on top of it.

The trade balance is where the size of the move comes from, and it is worth being honest about how much of this is exports and how much is policy. Korea's surplus in 2025 was an ordinary year by its own standards. In 2026 it has been running at roughly three times the pace of the 2017 record, with semiconductors close to half of all exports and memory most of that. Samsung and SK hynix are each making more in a quarter than they made in all of 2018. The 2017 cycle is the clean comparison: a record surplus with none of the reforms produced one good year and then a bear market, because the earnings were a fraction of this and the discount stayed in place. So the exports would have moved the market regardless. What regulation did was make sure that when the earnings arrived, the market was priced at its own median instead of a discount, and foreign capital could own it outright.

What the multiple says right now is the part that matters for the paid section. The KOSPI trades at roughly half its own long run multiple on forward earnings, lower than it was at the martial law low. That means the market is treating the memory cycle as a peak and not a supercycle. The blow-off top in June was retail leverage chasing those earnings while foreign investors sold into it, and the July flush was that leverage clearing rather than any policy reversal. Not a single reform was withdrawn. So the question from here is not whether the policy story is intact, it is, but whether the earnings persist and who is left holding them when the cycle turns. That is where the regulation buckets earn their keep: they decide WHO holds through the cycle. The chart below has each step labeled on the price action.

The currency is the piece that did not follow the script, and I want to be careful with it. For two years the won went the OPPOSITE way to the equity market. Korea was exporting the AI cycle while the won traded the capital flow cycle: Korean retail was buying US tech, exporters were keeping dollars offshore, foreign investors were hedging their Korean exposure, and the tariff deal added a scheduled outflow on top. Then the oil shock in the spring of 2026 pushed the won to its weakest level since 2009 even as the surplus hit records. Attributing the recovery since June to any one policy move would be a stretch. What I can say is that the pieces that determine whether surplus dollars actually get converted into won, the exporters, the pension fund, the 24 hour market and the bond index flows, all changed at roughly the same time, and the won has rallied hard since. The chart below is the total return of being long the won, spot plus carry, which is what a foreign investor actually earns. It is still below its 2018 high with the scheduled flows ahead of it.

Zoomed in on the last two years, with the same policy labels as the KOSPI chart:

This brings it back to the thesis at the top. Regulation decided WHO could own Korean cash flows, the trade balance decided how big those cash flows were, and the currency is where the two have to settle. The KOSPI is consolidating around 7,000 after a blow-off top, at a multiple that says the market does not believe the earnings, and it is still the first vote on the AI trade every day before the Nasdaq opens. Where it goes from here is a question about US tech as much as it is about Korea, and the answer runs through oil, interest rate volatility and capital flows, which is exactly what I break down below.

Global Macro Positioning and Trading Opportunities:

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What is critical to understand is that the Fed drives the short end, but the long end is driven by the Fed + nominal GDP. People like to call the premium between short-end and long-end rates many different things: duration risk premia, term premia, long-term nominal GDP expectations, inflation risk premia, etc. At the end of the day, this is about how much of the movement in long-term rates can be explained by the actions of the Fed in the short end. Any residual is what we are trying to predict and derive a signal from in order to have a clearer view of WHAT is taking place and WHY it is happening. The chart below shows HOW MUCH of 30-year yields is driven by the Fed’s control of the short end (orange bars) vs term premia/long-term nominal GDP. You can see the chart over the last 2 years here:

What I want you to zoom in on is the misunderstood shift that is taking place right now. If you understand this shift, you will understand WHY equities bounced back from the 7600 level and WHERE they are likely to move from here.

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Risk can never be destroyed, only transferred. This is a fundamental presupposition for HOW capital flows through the system and WHY it moves. The challenge begins once you realize that risk is expressed in both nominal and real purchasing power terms across global markets, not in siloed systems.

What is the tangible implication of this? The system is ALWAYS operating under both nominal and real constraints. These underlying constraints are the mechanical drivers of capital flows. As these constraints channel how capital moves under the surface, market incumbents create narratives about these mechanics that are like trying to explain the mechanics of a car by showing everyone its shadow on the wall. While there might be dim reflections of the truth in the shadow, you’ll never understand the true nature of the machine unless you actually pop the hood.

These misinterpretations by various market participants and policymakers set the stage for errors on both a nominal and real basis. A company could misinterpret the macro environment and decide to take on significant sums of debt, which puts a nominal constraint on the company. In a similar way, policymakers are operating under nominal AND real purchasing power constraints since they are the issuer of the currency. They have to decide how much they want to preserve or dilute the real value of the currency, in the same way an oil refinery needs to determine the quality of the oil it produces, because that quality will determine how nominal dollars price those barrels.

These implicit distinctions become explicit when you put the weight of the global financial system on them. Small changes can have a big effect, and everyone realizes a lot faster that they can’t destroy risk, only transfer it, and that they need to transfer it as fast as possible.

When everyone is trying to transfer risk faster than everyone else, it is similar to converting the entire global system into a drop shipping “company” that buys inventory and sells it, but instead of using its own working capital to warehouse the inventory, it uses credit cards and just keeps rolling the balance from one card to the next, hoping the inventory sells before the payment comes due.

This game of always trying to turn over risk and find ways to make money with other people’s capital is what the entire global liquidity system, interest rate complex, and FX market are built on.

This is WHY I have written a comprehensive set of educational primers on every aspect of macro and markets, and provided every major model you’ll need to map these flows.

• All the educational primers, book recommendations, and financial models: LINK

• TradingView models: LINK

When you recognize that we are operating in a constraint-based system, where people wait until the last possible moment and only act when they are literally forced to, you will begin to see why the Fed is always moving from one policy error to the next.

Once you understand WHAT got us here, WHERE we are going will make a lot more sense.

Past Errors:

The chart below shows 1 year real yields, which means it is mapping the spread between 1 year rates and 1 year inflation expectations. Simply put, are short term rates paying you a premium ABOVE or BELOW inflation? Short end rates are exclusively controlled by the Federal Reserve. It doesn’t matter HOW they conduct forward guidance because at the end of the day, they control the short end. When real rates turn positive and rally (green), the Fed is being more restrictive relative to inflation in the system. When they allow real rates to turn negative (red), they are being overly accommodative relative to inflation.

In 2021, when the Fed pushed real rates to their most negative position in history (below -4% on the chart), they set a historic context that we are still feeling to this day. When Warsh thinks about inflation risk in the system, it is still framed by 2021, when so much mortgage debt was locked in at historically low rates and so much malinvestment took place that still has not been unwound to this day.

Here is the main idea you need to take away from today: 2021 was a structural policy error by the Fed that has fundamentally changed the structure of the global economy and financial markets. The only way it gets truly unwound is with an equal and opposite policy error, the Fed being too hawkish on the other end. We are nowhere near this, which is why growth and inflation remain so elevated in the system. Notice in the chart above that even today’s real rate, at roughly +1.9%, sits well below the 2023-2024 peak, let alone anything that would offset 2021.

Even though real rates have been rising recently, I have explained that the entire question right now is about growth, not just inflation.

If we take 1 year real rates and connect them to credit spreads, the regimes show that the system is able to absorb a lot of the higher real rates because of higher growth. You will notice in the regimes below that earlier this year, when the oil shock happened, the Fed paused into it, which is why real rates dropped. More recently, they have been trying to play catch up even though they are falling behind. This has caused some marginal selling pressure in equities, but not a ton. The scatter on the right makes the point: real yields are rising (blue line at +1.47 sigma) while credit spreads sit flat (pink line near zero), which puts today’s reading in the “growth absorbs restriction” quadrant rather than “restriction biting.” In simple terms, the higher rates are marginally more restrictive but nowhere near enough.

This is exactly WHY we have been oscillating between the 7800-7600 levels as I laid out in the chat prior to FOMC yesterday:

You will notice that ES was not able to remain below the 7600 level (the red arrow on the chart below marks the wick), and as soon as we moved through the Globex session, the short-term imbalance mean reverted back toward the middle of the range. This exact dynamic perfectly illustrates the environment I have been explaining. It shows that there are competing factors both bidding and selling equities:

The only way ES transitions into a bear market is if the Fed makes a real policy error by being too hawkish or too dovish. Either one will push risk assets into a corner. If Warsh is too dovish, it will stimulate inflation, long end rates will blow out, and we have a 2022-style inflationary bear market again. If Warsh is too hawkish, he will begin contracting liquidity, which will severely impact equities since their valuations are at all time highs.

Market Forces and Trades:

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What we will cover today gets to the very root of WHERE these flows are coming from and HOW to think about the changes in real purchasing power caused by sovereign debt risk. I have already laid out the framework for WHY these changes have taken place here. If you have been following the research, then you know why bonds are down so much right now and why it is beginning to drag on equities. My strategies signaled these risks well before Bessent tried to step in front of a market that is much bigger than him.

Big Picture:

Let’s start by dispelling the most misleading ideas people hold on either end of the spectrum. Domestic inflation can most certainly cause equities to crash. We saw this over and over in the 70s, and it was THE driver of flows in 2022 during the inflationary bear market. There is a deceptive idea in the financial community that inflation helps equities go up, which glosses over the entire mechanism: inflation also decreases liquidity by revaluing the purchasing power of dollars. There is always a risk for every reward in the system, and it doesn't matter if it is in real or nominal terms. When an entire generation thinks that debasement is functionally free money without any risk, you know they have minimized the risks that are required for making money in markets.

The chart below shows the precarious environment that we are CURRENTLY in. The largest drawdown in recent history for total returns in bonds makes the previous 40 years look like a walk in the park. The important thing to take note of is that this shows TOTAL returns and not just outright interest rates. If we adjusted these returns for inflation, the drawdown would be even deeper.

When we look at history, low and stable inflation creates a positive environment for risk assets, but when we begin to tip into higher volatility on either the deflation or inflation side, the entire game changes: https://papers.ssrn.com/sol3/papers.cfm?abstract_id=4153468

When volatility rises on either side of the distribution, you need to make more informed and active management decisions in order to offset the drawdown. If you want to benefit from the volatility, the bar is set incredibly high, but the payout is just as high because the entire financial industry and global monetary system have been structured to be long 60/40 and short volatility. This is WHY, if you understand the drivers of volatility for both deflation and inflation, you have an incredible opportunity to benefit from these changes instead of being crushed by them.

This is why I explained in the previous report (link) that the drivers of growth and inflation are so much larger than any single action by the Fed or Treasury. Government spending and the AI capex build-out are the most significant drivers of interest rates, and the oil shock is only amplifying this.

Scott Bessent has said that the inflationary impulse is only a supply shock. This statement in itself is an attempt to misdirect people away from the real drivers of long-end interest rates:

Notice that long-end real rates (blue) are making new highs while inflation swaps (orange) remain in their range. This, along with today's CPI print, which showed core measures decelerating, indicates that we are facing a larger structural issue with interest rates that is being amplified by energy prices, as opposed to merely a supply shock that will eventually push interest rates back down to cycle lows.

These subtle rhetorical plays by Bessent have significant implications for WHERE we go in equities and HOW HIGH we can go in rates. Think about what the data says vs. the narrative Bessent is trying to subtly float (remember, the US controls oil prices right now given its role in the Strait of Hormuz).

Headline CPI and the forward swap curve for CPI are both in a very reasonable range given the inflation risks in the system. The larger question is about the growth side of the equation and what everyone refers to as “term premia” (the compensation investors require to move out the duration risk curve). Bessent is trying to focus people on short-term inflation, while the real issue is government spending and high nominal GDP.

You will notice that Bessent is taking action on the long-term rate and FX side at the same exact time Warsh and the Fed are pausing on the short term interest rate side. For the last 2 months, short-end real rates have been in a range, which shows the Fed continuing to hold an overly accommodative stance on monetary policy relative to the conditions that exist.

This overly accommodative stance comes with almost 100bps of hikes priced into the terminal rate. The chart below shows the U7 SOFR contract, which shows HOW MANY hikes are priced between now and Sept 2027. This is the highest point of the forward curve, which means the market is pricing hikes until Sept 2027 and then a pause by the Fed.

The way you want to think about the chart above is by asking: HOW MANY hikes need to be priced into the forward curve before long-term bonds find a bottom and financial conditions tighten marginally? Until the Fed tightens enough to cause this, bonds remain skewed to the downside.

This was the exact logic I laid out in the bond strategy I published last week, which explained that when the volatility regime begins to rise in bonds AT THE SAME TIME that bonds underperform crude and equities, it is a clear sign that downside is beginning to materialize. The logic for this and the TradingView model were laid out here: LINK

We now have a clear understanding of the big picture and WHAT is happening. But the more important questions are: WHERE are we moving from here, and HOW MUCH risk exists for equities as Bessent manipulates and misdirects the market?

The Next Move In Bonds And Interest Rate Volatility:

While bonds have fallen recently, there are two important factors to understand in order to determine HOW MUCH FARTHER they can fall and the risk of a counter-trend move:

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The crisis that the global monetary system faces today is not one in the private sector but in the public sector, in real purchasing power terms as well as in the terms of trade that shift cross-border flows. Policymakers are in the process of being backed into a corner where they will be forced to decide WHO they are.

On one side, fiscal spending needs to increase in order to meet defense spending targets due to the rising threat of China. This is WHY we have seen equity names that have the highest sensitivity to fiscal spending rally so much from the 2022 lows. Governments can no longer ignore this threat because it is tangibly impacting taxes and labor markets.

The clearest example is how Germany allowed its industrial base to be carved out by Chinese exports and is now taking in significantly less tax revenue because of it. In order to fund the deficit, it needed to raise taxes on the consumer due to its short-sighted incompetence.

Germany is one of many countries being forced into a corner, and now the market is pushing them into an even tighter spot as long-term interest rates rise and increase the cost of financing deficits. 30-year government bond yields are at record-high levels as a result.

And notice that yields have been making new highs even with inflation at 2%. This reality is so much larger than domestic inflation!

But who cares? This is Germany. It doesn’t matter for the United States or other major countries, right?

Once the world begins to realize that Germany is getting pushed into a corner and that the divergence of long-end yields from inflation is the same exact pattern in the United States and Japan, it will wake up to the fact that every major country is being pushed into the same exact corner.

The world does not truly understand the sovereign risks unfolding and how they impact global interest rates and FX markets. These markets are the asymmetric linchpin on which the entire economy turns. Interest rate and FX markets are not two separate markets; they are two sides of the same coin, and every good, service, or asset is denominated in these coins.

Political parties won’t have the willpower to change until they are forced to. The largest changes in the world are ALWAYS driven by changes in policy that cause dramatic changes in interest rates and FX. This is the entire point of global macro: it focuses on these changes and expresses views that have the highest sensitivity to them.

Here is the problem though: while policymakers cloak inaction in virtue signaling, the private sector is trying to make as much money as humanly possible while the music is playing. The amount of credit and liquidity in the system has increased so much that GLOBAL banking sectors are sitting at all-time highs across every major country. The AI arms race has been the destination of all this credit and liquidity, but this doesn’t change the fact that governments are being backed into a corner. While policymakers choose inaction, liquidity is being added to the system because they want to kick the can down the road until they are forced to act. The problem is that WHEN they are forced to act, there will be secondary effects across the private sector that dramatically change the amount of credit and liquidity in the system.

This PATH of policymakers and the private sector riding the trend is the most important factor to navigate over the next 18 months, especially because we are already seeing elements of the sovereign risk being priced into SOME markets, but the inevitable second- and third-order effects have not played out yet. This is what we are going to focus on.

The Great Escalation:

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As I have consistently laid out, the greatest risk to financial markets continues to be the carry trade and interest rate risk. Both of these are sources of liquidity that are now being actively manipulated by policy actors. Policy actors do not operate within the same risk management framework as market practitioners because they are operating on the calendar schedule of the political cycle and don't have the same P&L constraints that help drive efficiency on the active risk-taking side of financial markets.

The most important question to answer in this regime is: HOW can we actively implement a strategy in this low-volatility period so that we know WHEN to execute around these policy errors?

The following report explains this and provides you with the tools to implement the ideas. If you haven’t already, you can download the entire codebase for the models I provided. They are all free, and you can feed them into AI and ask it to actively implement the ideas explained in these reports.

The Trading Strategy for Long-Term Bonds:

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Last week, I published my report explaining the entire macro picture and the tensions for WHERE we are moving next: see here

If you have been following along in the chat, I have been updating you in real time about WHAT the specific levels in ES would flip us from neutral to bearish within the current reflexive feedback loops we are in:

The recent note I sent out reiterated that my overall stance is one of holding cash and waiting but I was still taking short-term trades with small size from the long side. As we hit the 7670 level in ES, this has changed. Batting singles over the last month has gone incredibly well: buying gold (link), shorting vol into NVDA and Jackson Hole, and reiterating over and over that bonds are skewed to the downside and remaining BELOW the previous FOMC level.

Now this has changed.

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We are always in the process of updating how the range of probabilities is changing across multiple time horizons and how the constraints on each player act as anchors for those probabilities. These macro events function as clearing events where large players adjust hedges based on how their strategies are pricing fair value for an asset, as well as the vol positioning on that asset.

Some managers are adjusting exposure to meet benchmarking goals, vol targets, or their overall balance sheet, or they are simply running risk as discretionary traders. There are so many different players making decisions for so many different reasons, and everyone is trying to obtain whatever edge they can to squeeze P&L out of the market.

Differentiation will always be the defining element for those who generate alpha.

If you are following along with my active updates and the recent reports, you understand the structural elements of the new monetary regime we are moving into and how it directly connects to price action: see below for the initial context

My Views Heading Into Tomorrow:

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Saying we are in a bubble grossly underestimates the power of the underlying forces driving capital across global markets. False narratives diagnosing price action always set the stage for epic melt-ups and catastrophic melt-downs because uninformed market participants are forced to buy and sell at inopportune times.

Professional risk takers approach the future with humility by starting from first principles and ascertaining how they can add value to the liquidity process that dynamically unfolds. Starting from first principles instead of starting with narratives produces dramatically different outcomes and is what differentiates those who make asymmetric returns on the credit cycle melt UP and melt DOWN.

This report will explain WHAT the unique drivers of the current credit cycle are, WHY they matter for global financial markets, HOW the drivers are directly connected to specific markets, and then give you all of the models (the actual code) to monitor these flows in real time.

Macro Context:

Let’s start with the big picture to frame the underlying drivers for WHAT is happening. First, nominal GDP is running at 6.5%, which is incredibly high relative to recent history. This acceleration to a higher level of nominal GDP is WHY long-term interest rates have been rising.

You will notice that even during the oil shock earlier this year, long-term inflation swaps remained in their range, and real rates have been the primary driver of higher nominal yields in the 30-year. This is because growth and term premia, not inflation expectations, are what have been pushing long-end rates higher.

Long-end rates are pointing to the fact that there is a lot more driving interest rates than short-term inflation expectations; it is about the strength and breadth of underlying growth. Notice in the chart below, which shows 1-year nominal rates, that the Fed is holding rates ABOVE inflation. The blue bars visualize when real rates are driving the short end vs inflation expectations (orange). Historically, when the Fed begins widening the spread between nominal rates and inflation, it is trying to take a more restrictive stance. Simply put, if there is a ton of growth in the economy, even if inflation is falling, the Fed does not need to cut rates.

The more growth there is in the system, the higher the Fed can hold short-end rates (white) above inflation expectations (orange). The risk in the system is that if growth decelerates and the Fed pauses, this can create a liquidity gap in markets that pushes the highest-beta equities down. This is why the 2nd derivative of growth in both economic data and stock fundamentals has such a heightened significance right now. Smaller changes can have a larger effect due to the compressing spring in macro liquidity.

The question is: WHERE is all of this growth coming from that is allowing the Fed to hold rates above inflation? And how much of it is real GDP vs inflation? If we can understand this, then we can begin to break down the drivers of interest rates and the sustainability of macro liquidity in the current credit cycle (see previous report providing geopolitical context here: LINK).

The 2026 AI Liquidity Thesis:

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