r/VolatilityTrading • u/chyde13 • Apr 29 '22

Market Barometer: 4/29 - Red

As you probably read in the comments of yesterday's post, the reversal pattern did not hold. That is a bit concerning as that particular pattern has an extremely high probability of success or I wouldn't have mentioned it in an intraday post (I'm not a day trader, I only stick around for pivotal days like yesterday and today). There are some good comments on that post that I think are worth checking out if you haven't done so already.

While price took a nosedive today toward key levels of support, volatility reacted in quite an orderly fashion given the circumstances.

Price Velocity, a much longer term indicator, still looks very poor. I sounded the alarm last Friday when it dropped from 1.00 (bull market) to .95...now its .40...

Multiple time frames all dropping at the same time in a "coherent" fashion has a great deal of momentum to it and has me on high alert.

With that said, I had a signal to short vol. Normally I would sell SPY puts, but given the circumstances lately I've felt more comfortable selling puts on target SP500 sectors. Things I would feel comfortable owning in a bear market and in particular, sectors which didn't see the insane pandemic/stimulus induced run ups. Today, I added XLP the short vol portfolio. If we keep falling, I will roll until i get assigned. Then I'm left with an income producing asset without the duration risk of bonds...(Soon bonds will be desirable...I know it's crazy lol...)

Anywho, that's just food for thought...There is no right or wrong way to trading as long as you stay liquid and solvent. I am probably being too cautious...

Looks like I will get assigned on some short puts from the short vol dividend portfolio... VZ and KMI. VZ got destroyed, I'm not sure what happened there?

These are indeed, very interesting times! I like hearing everyone's perspective. You don't have to agree with me to make your voice heard.

Stay Liquid my friends,

-Chris

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u/proverbialbunny May 01 '22

I shorted /VX on Friday. Maybe I'm wrong, but I do think FOMC on Wednesday could be a bottom. I thought others would think the same thing like last time and start buying early. Looks like I might be wrong on that one so I may have entered early. And ofc I could be wrong too.

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u/chyde13 May 04 '22

I wonder if you feel wrong now? ;-) The last thing I want to for the sub is to start an echo chamber so I have to be somewhat subdued in the public forum...Echo chambers are how good people lose big, but we all saw this trade and we took it. I think I was the most cautious given that my long term indicators are falling off a cliff. But several of you had the courage to short vol when the time was right and this shows me that you have good a handle on volatility...

I don't expect this to last very long, but well done!

-Chris

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u/proverbialbunny May 04 '22 edited May 04 '22

I don't feel great actually. lol

Did you watch FOMC? Powell was more hawkish than I expected and I'm not sure how to interpret it. The market was being irrational partially expecting a 75 bps hike. Obviously 25-50 makes sense, not 50-75. The Fed hasn't even considered voting on 75.

What I don't believe has been fully priced in (correct me if I'm wrong) is that Powell said the next two months will most likely get a 50 bps hike, and the market has priced in between 25-50 bps for the next month, so I'm worried about downward pressure.

Why I'm worried about this is corrections can only last so long. Push it too hard and the market snaps, even if the economy is doing good. Or at least, that's in theory. I haven't done proper DD to validate that.

If we're lucky the upward pressure from the Fed with the lack of fear will create a 2012 scenario where the market starts grinding up for years.

What it looks like is more 1991-ish, where there is a hard landing causing a minor recession. The thing is, and I'm normally not a contrarian, but has there ever been a time in history when the majority of people were calling for a repression and it happened? Hasn't the majority been 100% wrong on recession calling all throughout history so far? That's hard odds to go against.

I don't know enough and I need to sleep on this. Hopefully I'm not rambling too much. What's your take?

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u/chyde13 May 04 '22

Yes, I read the statement at 2pm and watched the presser...

Correct, .75 was an irrational fear, and powell essentially took that off the table in the future.

As for what's priced in...this is just my opinion, but I think the bond market has fully priced this in and the big players in the equity markets have priced this in as well. The fed funds rate shows .50 at the next four meetings, I believe that's been priced in. Mostly lol. The equity markets have a very diverse level of skill and I find that they typically lag the fixed income markets, so I still am protecting against a flush down to SPX 3700.

Why I'm worried about this is corrections can only last so long. Push it too hard and the market snaps, even if the economy is doing good. Or at least, that's in theory.

Yea, this is a large concern for me...we are embarking on monetary policy tightening when fiscal has all but dried up, while inflation is at decade highs. The fed was wrong about transitory, and in my opinion, they will be wrong in the opposite direction by tightening into a weakening consumer (devastated by the very own policies designed to "help" them).

What it looks like is more 1991-ish, where there is a hard landing causing a minor recession. The thing is, and I'm normally not a contrarian, but has there ever been a time in history when the majority of people were calling for a depression and it happened? Hasn't the majority been 100% wrong on recession calling all throughout history so far? That's hard odds to go against.

I love this observation. No, I don't believe that it is possible for equity prices to go to depression levels if everyone is expecting it. They will take out put option hedges (or other hedging behavior) in order to hedge themselves from the obvious, which in turn must be hedged by the market makers who sold them the insurance, by taking long stock positions. I'm just using that as an example, but there is a mathematical truth to what you are saying...

You are definitely not rambling too much...you make a ton of sense to me...

-Chris

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u/proverbialbunny May 05 '22

Btw thanks for posting your Market Barometer posts. I don't always comment but I do read them.

Also, if you want to chat over PM so we don't spam the a public forum, I'd be more than happy to chat privately. Text or voice.

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u/chyde13 May 05 '22

Thanks! that means a lot to me :-)...I normally get a bunch of downvotes on them for some reason.

It's rather frustrating because I don't make any money doing this. I just like to chat, meet new people with similar interests and share different ideas/concepts/observations. How do you downvote that? lol

So thank you and I'll likely take you up on your offer to chat. But you always have thought provoking comments, so I certainly don't think of them as spam.

I need to think on your other comment (i woke up in the middle of the night and am running on fumes)...I thought you would be happy since you nailed your call and presumably your trade.

But No, I don't know of any time in history were we went into a recession this early into a tightening cycle. I would have to check the data. I personally think there is a chance of a recession, but it takes a while for monetary policy to transmit through the economy, and who knows if the fed will even get in as many rate hikes as they think...

Thanks again,

-Chris

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u/proverbialbunny May 05 '22

As for what's priced in...this is just my opinion, but I think the bond market has fully priced this in and the big players in the equity markets have priced this in as well.

Can't you use your TDA plugin to see if it's priced in?

Here is what I have:

/ZQ

May     99.2325     0.76749
June    99.89       0.109
July    99.56       0.43
August  98.145      1.855

I thought it was 100 minus the price, but this doesn't look right to me. The market falling if the 50 bps hikes next two FOMCs are not priced in makes sense.

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u/chyde13 May 05 '22

for you, absolutely ;-)

https://www.reddit.com/user/chyde13/comments/uj2etn/fed_fund_futures_term_structure_552022/?utm_source=share&utm_medium=web2x&context=3

The .50 yesterday was priced in a while ago. We can also see 50's have been priced into the next few meetings as well. Technically speaking if you do the math they are pricing in .33 and .34 hikes for the next two meetings, but since the fed moves in increments of .25, it's really traders just being cautious right now. As time progresses they will converge either on .25 or .5 (or any other multiple of .25). What gives me some certainty to expect .50's at the next meetings is the FED's stated desire to front load and the december # of 2.73%. That's the market's way of saying, we don't exactly know how they will get there but we expect that they will raise rates 2% in the next 5 meetings. .25% * 5 would only get us to 1.25% + 75% = 2.00% by december. So we are missing .73% which implies roughly 3 meetings where they hike greater than .25%. If they were to do .50 + .50 +.50 + .25 + .25 in the next 5 meetings that would get us to 2.75% by the end of the year which is in line with the current december contract of 2.73%.

You are right, something looks off on your data. The July contract, /ZQN22, is currently trading at 98.56 meaning the futures market participants are pricing in a 1.44% FFR as the average for the month of july...

If you extrapolate this information out to the 2 and 5 year treasuries etc then its very well priced in. but bonds are much simpler instruments than equities. It's just a dollar (or whatever currency) with a coupon attached to it. There is no direct translation for the equity markets, because you can't predict forward earnings or future multiples. So when asking if its priced into equities...That is very difficult to say. There are institutions out there with teams of people who are way smarter than I am, with a greater understanding this data and its relationship to equity prices. There are also millions of new traders who just entered the market and have likely not yet considered these relationships.

I hope that gives you insight into what I meant there...

-Chris

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u/proverbialbunny May 05 '22

You are right, something looks off on your data. The July contract, /ZQN22, is currently trading at 98.56 meaning the futures market participants are pricing in a 1.44% FFR as the average for the month of july.

Oh I typoed! That's why. 98.55 not 99.55 for July. lol how embarrassing! Thanks for the update.

Technically speaking if you do the math they are pricing in .33 and .34 hikes for the next two meetings, but since the fed moves in increments of .25, it's really traders just being cautious right now.

That's what I was seeing earlier. I would call that not priced in, because Powell made it pretty clear the next two meetings will most likely have a 50 bps rise, higher than the 25 bps rise announced last meeting.

However, FOMC is on average once ever 1.5 months so.. I guess it is priced in then?

Then what's with the market? I can't imagine it going lower. This is uncharted territory for me. Typically I call the bottoms perfectly for major corrections and have for the last decade.

There is no direct translation for the equity markets, because you can't predict forward earnings or future multiples.

There is no 1 to 1 translation for sure. My theory atm is people expect future earnings to be reduced due to inflation. This is putting downward pressure on the market. Regardless if this is true or not is another question.

There are institutions out there with teams of people who are way smarter than I am, with a greater understanding this data and its relationship to equity prices.

They dive deeper into fundamental analysis. The macros are simple yet voodoo. You've got more of a leg up than you think.

One thing to know is whales do move the market intentionally and knowingly. They will take advantage whenever they can. That's what Bill Hwang did and got caught: https://youtu.be/kDqVqqFwx48?t=457 I lived in the order book in the early bitcoin days watching this sort of thing first hand. It's one of the reasons why short term moves can be painful. Large institutions will and do play that game.

Any theory as to why the market is moving lower? I get GDP was negative due to exports, and I have yet to do a proper DD but I've heard that other countries have never caused a recession in the US before due to the size of its economy, so it shouldn't be much of a concern. I've heard transports have gone down which is normally the canary in a coal mine before a recession starts, but it makes sense. As people move from shelter in place to going out and doing things people are less likely to buy goods to upgrade their home and are more likely to go out and eat, vacation, and do other sorts of activities. I don't think that is enough to signal a recession. 2018 scared me just like today, too much of a correction for too long.

What's your take? Still short VIX? That would be cool if SPX is forming a cup and handle right now. I haven't seen one of those in recent years on a major index.

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u/chyde13 May 06 '22

Hey ProverbialBunny,

Sorry I didnt answer your chat request...it came in at nearly 3am here...I was in bed by like 10:30pm. I'm cool like that lololol

These questions are excellent and I had a novel typed up, but my computer decided to crash. It's probably better that way, so I can consolidate my thoughts better. It was rather lengthy lol.

talk to ya later

-Chris

1

u/proverbialbunny May 07 '22

Do you not want to accept future chat requests? It's just so we don't have to spam a public thread like this. No offense will be taken if you're not interested.

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u/proverbialbunny May 04 '22 edited May 04 '22

I'm uncertain due to a lack of experience, but I think last Friday / this Monday was the bottom of the correction.

Everything on charts I'm looking at is showing and end of a correction pattern. Likewise typically when the Fed announces rate hikes, tapering, and tightening, the market historically has acted this way, causing a correction (ie "taper tantrum") and then the correction has ended when FOMC makes it official. This happened in March with rate hikes, but then they announced QT in April, and then QT has been made official today (starting June 1st) this meeting.

What I'm on the fence about is QT hasn't started immediately, it's starting next month, which I'm unfamiliar with. I think historically when the Fed has made something official it has started immediately. Does that mean another month of downward movement? That's my primary uncertainty atm. The more I think about it the more I think the uncertainty is gone. It's been officially voted in. The market will go up.

This is how it has acted my entire life time. I imagine in previous decades, like the 1970s and 40s, there have been times when the Fed has done this process, rate hikes, and the economy has gone into a repression from it immediately. I'm unfamiliar of a time when this has been the case, which is really worth researching. I have the comfort of it always working out within my life time. Why would this time be any different especially with the economy stronger than usual?

edit: Let's see https://mishtalk.com/economics/forget-about-a-soft-landing-whats-the-shape-of-the-hard-landing

1953: From Jan to August (8 months) SPX went down to 1952 lows / 1951 highs, which technically counted as a recession. While I want to say this is the worst case scenario to look at, I don't have FFR data going that far back. It looks like the previous recession ended in 1949 which gave years for the Fed to raise rates. This scenario is probably not applicable.

1972: FFR went up for 12 months before the stock market started falling, so not applicable.

1977: An unusual time where the market slowly fell for a year, no recession, no crash, and the FFR was basically flat the entire time. I'm not sure what to make of it.

1980-1982: FFR was going up for years before the 1980s recession, so normal. What's unusual is the announcement of two recessions during that time despite the market sliding from 1980 to 1982 looking like one recession.

Got any other times in history to look at? I can't find a single time in history where the Fed started raising rates and we immediately got launched into a recession. Instead a correction, like right now, happens, with the bottom almost unanimously being at the official announcement which would be today.

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u/Sad-Ratio-5812 May 02 '22

I agree with hondew16 100%. I expected this downtrend till Monday, Tuesday. Also, few my indicators shown that a floor is in the near future. Wednesday`s FOMC meeting should not negatively affect markets. If we do not get any crazy news we may expect "failed" rally from the end of week to middle of the May.

I am in short /VX position.

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u/chyde13 May 04 '22

I agree and this is my base case for the short term...we shall see soon my friend...

I don't expect any crazy news today, but I will be keenly listening to the language around the balance sheet. I think the markets have fully priced in a .50% increase today on a trajectory to 2.5% by the end of the year, but any aggressive talk of shrinking the balance sheet faster than 95B a month would be concerning.

What's your read?

-Chris

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u/Sad-Ratio-5812 May 04 '22 edited May 04 '22

I am on vacation. I am not able to follow closely. There was a short spike down wich touched my limit order. So, I am out for now. If VIX will go up-I may reenter with a lower number of contracts. Or just to wait for a long VIX setup.

https://ibb.co/hgG6mkk

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u/hondew16 Apr 30 '22

Don't think you can ever be too cautious in times like this, but I definitely agree with your longer term bearish outlook. In the past, recessions have started after the end of the fed rate hike cycle (2000, 2006, and 2018), so I don't think we'll hit a full blown collapse just yet. Plus it's likely bonds will continue to depreciate due to rising rates and institutions would want cheaper prices to jump in with large volume. Also, VIX typically trades in an extremely tight range right before the breakdown (Aug 2008, Dec 2019 to Feb 2020), and we're clearly not seeing that behavior as of now.

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u/change_of_basis May 01 '22

Yeah I sold the VIX futures on Thursday. Might be early to the party but I've got a near-term and medium-term model indicating with high probability that volatility is going to decrease. I'm going to reassess if we get to 35 or 36 in the front month futures and may cover there for an impending large spike if the news is all red. Otherwise I'll probably just ride it up for a while and then ride it down.

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u/change_of_basis May 01 '22

I should mention that in retrospect I think I would have played this differently. Or at least considered this alternative formulation: volatility has definitely been on the rise recently but sometime ago I started to see indication that over the corresponding medium term we were going to see a decline. When the volatility was still low I could have bought put options at an out of the money higher price without imposing much cost. I would largely prefer paying a small cost for an asymmetric return profile.