Monday Morning Quarterback
If you're staring at every tick and pressing for performance, chances are you're a tad too exposed.
Tempted by the fruit of another
Tempted but the truth is discovered
What's been going on, now that you have gone.
Good morning and welcome back to the flickering pack. After another nutty strut that checked our gut, we power up to find the world in a much better mood.
It's almost reminiscent of that scene in Trading Places when Hoofy Winthorpe III awoke from a slumber and proclaimed "I had the most absurd nightmare. I was poor and no one liked me. I lost my job, I lost my house, Daisy hated me and it was all because of this terrible, awful bear."
The bulls weren't dreaming, of course, as the last month was a lesson in lucidity for blind believers around the world. You know the operation-the hip-bone (sub-prime) was connected to the thigh bone (Bear Stearns), which was connected to the collective legs through $500 trillion in derivatives. The resulting emergency paralyzed markets around the world.
Late last week, global stock doctors administered an all-too-familiar antidote, one that has kept the patient and patience in play for years: liquidity. Central Banks injected $290 billion into the system Thursday and Friday-and another $70 billion this morning--with hopes that life-support will allow the body to function with as fading brain.
So, will Grey Market Anatomy save the day and shock the system back from the brink of a credit seizure? Perhaps, one well-heeled hedge fund manager told me this weekend that "the Fed won't let the market fail." I looked at him and respectfully offered that his mindset was precisely the problem.
My friend Slaino, who was quietly absorbing the conversation, chimed in to say "Toddo is a derivative trader and they're always bearish." I countered that option traders aren't negative (or naughty) by nature, they simply understand the nuances of the market machination. I'm not saying we're gonna crash, I'm simply stating that the conditional elements of a downside disconnect are in place and the probability of such a move is higher than most folks are currently discounting.
Why? Two reasons really. First, the correlation of strategies among hedge funds is quite high as big money has the same (and, in many cases, leveraged) bets on. Second, the proliferation of "income funds" and "negative gamma" (short volatility) will exacerbate volatility.
In 1987, there were a slew of "short, cheap puts" in the marketplace. Today, as a function of the "buy write funds" (stealthily described as "income funds" by the Wall Street sales machine), we've got the same synthetic dynamic. For anyone who knows anything about options will tell you that "long stock and short call" has the same exact risk profile as a naked short put.
So, what am I looking at as we enter another week of freaky tweaks? Three things in particular:
- Volatility levels. Given the fact that so many funds are "short vol" around VXO 10-12-and understanding that the VXO (now 29)never dipped below 20 during last week's upside run-a respite in this variable would be a welcome evolution for many funds currently trapped.
- The Dollar-Yen. The Yen has traded in lock-step with the equity markets for some time as the carry trade winds and unwinds. The smarter cookies I know continue to keep this front and center as a proxy for liquidity. If the FOMC does cut, this exchange rate will get very loud in trading (and eventually) media circles.
- Goldman Sachs. The most important stock among the financials, which is the most important sector in the marketplace, continues to be a proxy for all things that smoke. Bloomberg reported Friday that its mighty Alpha fund was down 26% for the year and this morning, they received a fresh $3 billion injection in their GEO fund (and claim they've cut risk and leverage after performance "suffered significantly).
From a trading standpoint, I faded S&P 1490 on the Wednesday after Ben and his friends built their box. I scaled out of some of those puts into Thursday's hole and punted the leaves on Friday's open. When the market jimmied higher, I bought back a very small put position-Pringles, not potatoes-and carried them home. I'm very light, very tight with lotsa powder as I ready for this five session span.
My first blush thought, so you know, is to fade (read: add some puts) into the opening gap and set stops above the morning high. I'm quite conscious that a "higher low" in the financials will be viewed as a potential positive and I'm content to wait for high-probability set-up before unleashing my hounds anew. BKX 111.50, if and when, remains a level of lore.
One final thought before I flip lids and juggle my struggle. If you're staring at every tick and pressing for performance, chances are you're a tad too exposed. Remember, many hedge funds are gonna get word on redemptions this Wednesday so you may wanna use price to your advantage and sell when you can, not when you have too.
Good luck Minyans-let's hit 'em hard.
Todd Harrison is the founder and Chief Executive Officer of Minyanville. Prior to his current role, Mr. Harrison was President and head trader at a $400 million dollar New York-based hedge fund. Todd welcomes your comments and/or feedback at firstname.lastname@example.org.
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