Dissident Thoughts

PCE 0.0% MoM, Exp. 0.0%, Last 0.3% PCE 2.6% YoY, Exp. 2.6%, Last 2.7% PCE Core 0.1% MoM, Exp. 0.1%, Last 0.2% PCE Core 2.6%, Exp. 2.6%, Last 2.7%

May Core PCE Price Index(YoY): 2.6%, [Est. 2.6%, Prev. 2.8%] May Core PCE Price Index(MoM): 0.1%, [Est. 0.1%, Prev. 0.2%] May PCE Prices Index(YoY): 2.6%, [Est. 2.6%, Prev. 2.7%] May PCE Prices Index(MoM): 0.0%, [Est. 0.0%, Prev. 0.3%]

🇺🇸 ‘Biden is toast’ | Politico 🔶️ President Joe Biden opened the debate with a raspy voice and disjointed, rambling answers, reigniting Democratic concerns about his age and ability to take on former President Donald Trump. 🔶️ Many of the president’s answers were hard to follow. At one point, seemingly losing his train of thought, Biden said “we finally beat Medicare,” misspeaking about his own policy on earned benefits. 🔶️ In text messages with POLITICO, Democrats expressed confusion and concern as they watched the first minutes of the event. One former Biden White House and campaign aide called it “terrible,” adding that they have had to ask themselves over and over “What did he just say? This is crazy.” 🔶️ Jay Surdukowski, an attorney and Democratic activist from New Hampshire who co-chaired Martin O’Malley’s 2016 presidential campaign in the state, said, “Biden is toast — calling it now.” 🔶️ Biden’s rambling answers provided Trump multiple opportunities to jump in with retorts. At one point, after an answer ostensibly on immigration, Trump said, “I don’t know what he said at the end there. I don’t think he knows what he said.” 🔶️ The president’s performance was widely panned online and will likely reinforce the impression that he’s lost a step. The 81-year-old president’s age has long been a liability, with poll after poll showing even many Democrats concerned about his age. 🔶️ One prominent operative texted, “Time for an open convention.” https://www.politico.com/news/2024/06/27/biden-debate-opening-concerns-00165595

The End of Discipline If in war, truth is the first casualty, discipline is the second. That is only takeaway I have after glancing at the Treasury's latest borrowing estimates for TBAC. The CBO's outlook always "projects" the total deficit to contract next year only to - at the first sign of a growth scare - update with increased borrowing estimates, which I find amusing. Months ago I said in War and the Term Premium that the ultimate risk faced by the financial establishment is a no landing scenario and a stronger dollar. If you ask what's the one thing dollar foreign exchange cares about, the answer will be overnight interest rate differentials, and this is for a number of reasons — global cash lenders seek higher yields in overnight Treasury reverse repo and international real money investors prefer to hold higher yielding Treasury bills while the curve is inverted. A lot of people who I speak with will describe the world economy as heavily financialized, and that is of course true. But a better way to understand today's regime is one that it is heavily dollarized. This is just the reality — when a funding crisis emerges, somewhere along the path to solution is a supply of dollars. In the late 1990s, this was IMF dollar loans; in 2019 it was standing repo; in 2008 it was dollar swap lines. And so, aside from Brent Johnson's 'milkshake', there exist alternate mechanics that explain dollar FX strength, and one is the supply of Treasuries. This is why it's important to think about the world as dollarized because, unlike in the U.K. or elsewhere in Europe where the threat of deficits see a sovereign bond and a currency selloff, foreign banks don't post their collateral in pounds or in euros. They need eurodollars. But I see a vicious cycle here. Because if the U.S. has infinite fiscal space, and Treasury supply loosens financial conditions, then reducing said deficit is but a matter of tolerating an economic contraction. With no tolerance for economic contraction on the margin, the deficits will persist. Inflation will rise. Persistent deficits will slowly widen the term premium and incur negative carry... unless rates remain higher-for-longer. Higher-for-longer means the demand for eurodollars from overseas can only strengthen. A feedback loop emerges where the endgame is not U.S. financial conditions becoming too tight as the dollar strengthens (the pain we all expect and recall from 2022), but too loose as the dollar strengthens. This is a dynamic that has existed for about a year now in the post-fiscal discipline world. Technically, since the Treasury went on a bill-issuing spree to finance the TGA rebuild using reverse repos because it set the precedent, one which the Biden Administration embarked on soon after, that a policy of persistent fiscal expansion was acceptable. The Biden Treasury has crossed a fiscal Rubicon because there can no longer be tolerance for economic contraction. There is no choice. If Treasury supply to the private sector is net stimulative and loosens financial conditions, then it follows that removing the supply of Treasuries from the private sector with LSAPs (Large Scale Asset Purchases by the Fed) is net contractionary and tightens financial conditions. If this is a counterintuitive way of thinking about QE, that's because the QE we know of was inspired by a Fed put under risk assets. But, as I've said before, the coming QE won't depress interest rates and cheapen financial leverage to prop up assets — it will be, under the guise of YCC, to pump the brakes on a runaway dollar amid raging deficits. If we are right about the structural path of deficits keeping inflation and interest rates higher-for-longer, and that this would resultingly strengthen the dollar against other DM currencies, we will first see pain abroad before asset bubbles at home. There are only two tools that can manage this problem. Which is why the Federal Reserve's next surprise will not be rate cuts with QT, but rate hikes with QE. Excerpted from The End of Discipline Zoltan Pozsar May 8, 2024

“when the economists send their people, they’re not sending their best. they’re sending ones with lots of nobel prizes, and they’re bringing those prizes with them. they’re bringing their beveridge curves. they’re bringing yield curves. and some, I assume, are good forecasters.” https://t.me/marketfeed/507280

Consumer Sentiment & the C.P.Lie The latest Michigan survey saw 1Y-inflation expectations increase to 3.5% (versus 3.2% expected) and consumer sentiment plunge from 69.1 to 65.6 (versus 72 expected). We don't need to tell you that this is a bad outright terrible result, but meanwhile the Fed as usual has its blinders on, desperate to explain it away because, after all, "why, at a time of falling inflation, low unemployment, and strong economic growth, do voters appear so unsatisfied with the state of the economy, and in how Biden is handling the economy? Why in particular do voters complain so much about inflation?" (That's a quote) The first comes from the Richmond Fed, which finds that "consumers whose political party is in office tend to have higher sentiment than those affiliated with the party not in office," noting that "the partisan sentiment gap has widened over time." The second, much more convincing result, is some research from the Chicago School of Business, which used the pre-1983 CPI that took home prices and mortgage interest payments into account. "If it still did, inflation would have peaked at nearly 18 percent in late 2022, about double the current CPI measure." In fact, as the study itself claims, "If we measured inflation as the BLS did in the 1970s, the recent bout of inflation would have been even higher than the worst of the 1970s! It really is as bad now as it was then." If the CPI were to include interest paid on personal debt (such as auto loans and credit-card debt), that would also produce a much higher inflation rate than suggested by the current official measure (chart above). In fact, using this CPI, the year-over-year change in inflation has only just returned back down to its 2022 highs. Maybe this would better explain for the economists like John Cochrane why "voters complain so much about inflation?"

The Dispersion Trade You can think of the dispersion trade that Cem Karson describes in the clip above as a pair trade: dispersion portfolios historically go long single stock volatility and go short index volatility. But how can this work if these single stocks, that we expect vol to increase on, comprise an index that we also expect vol to decrease on? The short answer is that the trade depends on a breakdown in volatility correlation: In theory, spot (whatever market is being traded) and volatility are negatively correlated: if spot is down, volatility is up due to more aggressive option buying in a "spot down/vol up" dynamic. Likewise, if spot is up, volatility often declines as the urgency to hedge stock positions using options becomes less needed ("spot up/vol down"). That's at least the textbook way to think about volatility. But with the short volatility trade returning in size, the correlation is becoming increasingly flimsy, making the effect an up or down move in spot has indifferent to what it means for volatility. Most important to understanding this is to recall that if there is high demand for options, buyers will pay an increasingly higher premium. And that premium is reflected in the implied volatility (IV). No differently than a stock, where high demand = higher price: High option demand = high implied volatility (IV). Consider Apple stock a couple of weeks ago, when it's two-day rally to new all time highs saw record-breaking call option volume. You could easily infer that Apple's IV exploded higher, because to bid up Apple call options means to bid up the extrinsic value on said options which, again, is reflected in the implied volatility component of the option premium. The chart above on the left from Brian Garrett is a ratio of single stock vol/index vol. Single stock vol is very high relative to index vol, a footprint of the environment best suited for dispersion trades. On the right is a chart of implied correlation. Dispersion traders are said to be short correlation, hence benefitting from a less of it. What effect does it have on the index? Well, like we just explained, for every outperformer there must be an underperformer of equal weight. Whether the index goes up or stays flat is largely irrelevant so long as volatility is well supplied. In other words, what matters is index vol down. It should be noted here that the most basic "vol short" strategy is the short straddle or short strangle trade. Similarly, the long straddle/strangle is a simple "long vol" strategy. There exists a litany of creative options spreads that include these to capitalize on volatility rising or falling. We know what an ideal environment for dispersion traders looks like; individual stocks having large independent and uncorrelated moves. If that’s the best outcome, then the worst outcome must be stocks trading together in smaller, correlated moves.

The Short Vol Trade & Dispersion Interesting comment: "There's basically one stock (NVDA) holding up S&P500 index, now even the rest of the top 10 is being cannibalized." But consider that NVDA has lost 10% in the last three trading sessions, versus the S&P's 0.50% loss. What's going on under the hood? We've made the same observation before, and it's not as significant as it may seem (although it is unusual). It's called index dispersion and it's best explained starting from the very beginning: Volatility can be supplied (or "sold") at the index level (ex. S&P500 volatility) and, separately, in single names (ex. NVDA volatility). This is via options selling at a scale done mostly by institutions. Volatility can be demanded (bought) via buying options. The infamous "short volatility trade" almost exclusively involves shorting vol at the index level. When index volatility gets low, this "short vol" trade becomes self-fulfilling and, even on a risk/reward-adjusted basis, is one of the most profitable times to do it. "Buying index volatility because VIX is cheap" is a trade that should not be expected to perform. You can even see for yourself how every time VIX (which proxies for S&P volatility) is "slammed" lower, it tends to remain subdued for at least a couple of months as the short vol trade becomes reflexive – volatility is said to be very well supplied. It follows that index volatility supply tends to keep the index "pinned" at some price. This is for a variety reasons, often related to options dealers' gamma position: as implied volatility decreases, net gamma tends to get longer. In a long gamma environment, dealers, who are options sellers, sell rallies and buy dips in the underlying to delta hedge. The practice of selling rallies and buying dips reduces the realized volatility, which unlike implied volatility is calculated in hindsight. If the dealer sells 12% volatility and then the market is extremely quiet and only realizes a 5% volatility, then a dealer who delta hedges that position would be profitable. The profitability of the trade is the difference between implied and realized volatility, also called the volatility risk premium or VRP. Hence why the short vol trade is "self-fulfilling." The effect volatility supply at the index level has on single names (like NVDA, AAPL, etc.) could be described as uncorrelated. And if the index is "pinned" then, by definition, for something to go up, something else must go down: for every outperformer there must be an underperformer of equal weight. Correlation breaks down to the benefit of the dispersion trader, because he is betting on volatility in single names to exceed that of the index. If NVDA were to rally such that, for example, it adds $100 billion in market cap, it's ideal for the trade to see an adjacent $100 billion being sold elsewhere in the S&P500. Consider the effect this has on index volatility versus NVDA's volatility: the index does nothing, but NVDA moves freely. In it's most basic form, as Noel Smith explains, imagine you have stock A, stock B, and stock index {A, B}. You are long volatility in stock A & stock B, and short volatility in stock index {A, B}. The trade works best when stock A goes down 20% and stock B goes up 20%, because this keeps the index flat (and thus compresses the volatility) while volatility in the single names stock A and stock B is higher.

“What if we printed more money and then made a law saying the prices can’t be raised...." >IT'S FUCKED Do these girls staff for the White House by any chance?

Could Trump Pop the AI Bubble? With the November elections less than five months away, the market has been amazingly complacent and oblivious about the potential shock that, frankly, either Presidency would unleash. But that's about to change. As Goldman trader John Flood warns in a weekend note, the results of the upcoming US Presidential election could have a substantial impact on the USD and the relative performance of domestic-facing vs. internationally-exposed firms. As @Citrini7 mentioned earlier, a likely Trump election and Republican sweep would carry big implications for the bond market. The first presidential debate is scheduled for this Thursday, June 27th. And, as attention finally starts to turn to the outcome of the elections, Goldman economists expect the dollar to strengthen under a Republican White House victory regardless of whether there is a sweep or divided government. That's because, as @Citrini7 discussed at length here, Trump has floated several potential tariff policies, including a 10% across-the-board tariff on imports along with a 60% tariff on imports from China, all of which would spark a sharp increase in inflation. And, as Goldman notes, "tariff increases appear likely in the event of a Trump victory and would likely strengthen the USD." The bank goes on to caution that tariffs would create a headwind to the performance of stocks with high international revenue exposure due to the risk of retaliatory tariffs as well as heightened geopolitical tensions. It may come as a shock to some that Tech has the highest international sales exposures with a whopping 59% of total revenues (and 17% is purely EM), while Cyclicals are in second place. In addition to companies with elevated international revenues, companies that are dependent on international suppliers would also face headwinds from tariffs. Goldman screened S&P 500 goods companies into groups of stocks with the largest exposure to suppliers from the US, suppliers outside the US, and suppliers in Greater China specifically. Once again, the median Tech Hardware stock has the greatest exposure to suppliers from Greater China while the median Broadline Retail stock has the greatest exposure to domestic suppliers. On the right in the second image, Goldman shows that an equal-weighted portfolio of stocks most exposed to suppliers from Greater China (excluding Tech) has lagged a similarly-constructed portfolio of stocks most exposed to suppliers from the U.S. by 18% since last fall. The relative performance of these two groups has generally moved with prediction market odds of a Trump presidency. Of course, if one also adds Big Tech to this portfolio of stocks exposed to China suppliers, one gets an exponential melt-up... which is why anyone looking for the pin that pops the mega tech/AI bubble should look no further than Trump's victory on November 5. 🔗 Goldman