Below we provide key conclusions from our derivatives-centric models and screens. We publish key conclusions ~monthly in cohesion with shifting trends. The point is to hash out observed consensus views with our own to 1) Find asymmetric pressure points and 2) Generate alternative ways to play our macro themes. Because many of these factors shift in the short-term, this note is intended to be a summary of process.
In this month’s report we’ll hit on two topics that may have a different audience but are directly related in our opinion. Here is the simple summary:
1) Equity Factor Exposure Trends: It is becoming increasingly expensive to hedge high-beta and "growth" indices/exposures on a relative basis. This has been driven by past history (higher trending realized volatility in "growth") and lower trending volatility in direct rate-sensitivities. Regardless of whether or not you are a cyclically-minded investor or follow derivatives markets, relative performance has began to suck wind for growth and momentum outperformance on a trending basis (3-6 months). We believe this has important sector implications if it continues because of the cyclical nature of sector weightings. many constructions of "Momentum" portfolios for example, own whats working on a 6-12 month duration and will dump under-performance on expanding volatility at rebalancing periods. This is a simplification on tactics with market impact elusive. The main question we are trying to answer is whether or not longstanding outperformance in "growth" and "momentum" portfolios is at continued risk of breaking down, particularly if Quad 4 in Q4 picks up some steam in financial markets. We hash out this debate in the deck (link below).
2) Interest Rate Volatility Expectations: If we look at futures & options open interest in treasury contracts, we know the SHORT bond positions are piling on in anticipation of rates rising. With that being said, interest rate volatility expectations continue to trend near all-time lows despite popping just a little on the rate moves last week. This is without question a reason why relative volatility expectations in many "value" equity indices are plunging relative to their high-beta, growth counterpart indices (high weightings to banking, insurance, etc. because of index construction). While we're not labeling Quad #4 in Q4 a big rate volatility event, crowded positioning and cheap vol may make derivatives markets an attractive place to play underlying rate views.
We provide one visual per bullet at the bottom of this note but a link to the extensive slide deck with a section devoted to each bulleted call-out above can be found here: Global Macro Volatility & Positioning Trends
