Alpha Report: Moar pain?
Duration risk and credit risk.
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The Big Picture:
There has been a heightened degree of pain in financial markets for BOTH longs and shorts since the election.
You will notice the election hedges unwinding squeezed shorts out of their positions. The index below shows all of the stocks with the highest short interest rallying:
This overlapped with the Russell outperforming ES as the hedges unwound from the election. Why? because managers have been way too bearish the US economy and all we needed was a hedging catalyst to unwind their wrong view.
After these shorts and hedges were unwound, the Russell and Nasdaq pushed to all time highs as ES hit 6,000. This scenario created very limited upside because the macro picture did not justify the degree of valuations and positioning got incredibly complacent. This was when the macro report was published (link) laying out all of the tensions and synthesizing them in real time showing how the upside was limited and we were likely to see a pullback.
Valautions aren’t an inherent timing signal but when you synthesize them correctly with the macro regime and positioning, they send an important signal. Here is the earnings expectations PE ratio where you can see a considerable period of valuation multiples expanding to levels comparable to 2021.
This was occurring at the same time duration risk was increasing in markets. If you are trying to understand how duration risk impacts markets, review the Alpha Primres here: Macro Alpha Primers:
Macro Alpha Primer: Credit Risk and Duration Risk and Macro Podcast: Macro Alpha Primer
Macro Alpha Primer: Correlations and Macro Podcast: Macro Alpha Primer
Macro Alpha Primer: Macro Catalysts, Hedging Pressure, and Positioning and Macro Podcast: Macro Alpha Primer
Macro Alpha Primer: Positioning Premiums and Macro Podcast: Macro Alpha Primer
In other words, as valuations become richer in equities, they have a higher sensitivity to changes in duration risk. This is why the CPI print was so important this past week. It functioned as a macro catalyst for positioning to unwind as stocks and bonds went down TOGETHER:
This is exactly how we have seen stocks and bonds play out in their correlation:
All of this begs the question, NOW WHAT?
The Next Step For Risk Assets:
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