Speaker 1: Bloomberg Audio Studios, Podcasts, Radio News.
Speaker 2: Hello and welcome to another episode of the Odd Lots Podcast.
Speaker 2: I'm Tracy Alloway.
Speaker 3: And I'm Joe Wisenthal.
Speaker 2: Joe, how would you describe current market conditions?
Speaker 3: Up into the right every day? Basically we're recording this
Speaker 3: June thirteen, and we're probably like at new highs in
Speaker 3: the futures. Yeah, it's just everything just goes up all
Speaker 3: the time, and it's pretty easy. Yeah.
Speaker 2: But even when you say up into the right, if
Speaker 2: you're looking at something like the SMP five hundred, yeah,
Speaker 2: I mean it's gone up a lot. Yeah, But on
Speaker 2: a day like Wednesday, when we had the FMC decision
Speaker 2: and we had inflation data coming in softer then expected,
Speaker 2: even then the SMP five hundred was up by like
Speaker 2: less than a percent.
Speaker 3: Yeah, But you add a bunch of less than a
Speaker 3: percent put together a historical year of returns.
Speaker 2: I mean, but no one wants to wait for all
Speaker 2: those days to pile up. So if you look at
Speaker 2: the single stocks, I mean, there have been days when
Speaker 2: in video was up like almost ten percent.
Speaker 3: So this is the thing, you're right, And this is
Speaker 3: the thing about the market, which is like I am
Speaker 3: like a boring s and P five hundred every month,
Speaker 3: like put you know, a few dollars into some ETF.
Speaker 3: But then I see other people around me getting like
Speaker 3: really rich because they bought in video, and it's really annoying.
Speaker 2: What if I told you there was a way that
Speaker 2: you could square those two things, so boring indices and
Speaker 2: the volatility in single stocks.
Speaker 3: I don't want those volatility in single sex talk of
Speaker 3: the upside of single stocks, Okay, but yes, if I
Speaker 3: can have both getting really rich and being boring, that's
Speaker 3: fine too.
Speaker 2: Okay, So today we're going to be talking about something
Speaker 2: that I've wanted to do an episode on for a
Speaker 2: long time. We're going to be talking about the dispersion trade.
Speaker 2: Have you tried at that? Not?
Speaker 3: No, I mean, basically other than the prep that I
Speaker 3: did for this episode fifteen minutes ago.
Speaker 2: No, I'm going to try not to be offended because
Speaker 2: I did write about it a few months ago, which
Speaker 2: should actually I wrote a story about it, and I
Speaker 2: wrote a newsletter, an all thoughts newsletter. Joe, Yeah, go on,
Speaker 2: all right, it's a good thing. We're having this conversation then, Okay,
Speaker 2: the dispersion trade. So basically it sort of falls into
Speaker 2: the bucket of another type of short vault.
Speaker 4: Trade, and the idea I sort of do that.
Speaker 2: Okay, good, we're getting somewhere. The idea is, basically, you
Speaker 2: have traders that are using equity options to bet on
Speaker 2: this is the important thing, the relative volatility between single
Speaker 2: stocks and stock indexes. Okay, so you know, typically you
Speaker 2: might see someone go long volatility in a basket of
Speaker 2: individual stocks using single stock options while simultaneously betting that
Speaker 2: volatility in an index like the S and P five
Speaker 2: hundred is going to stay relatively low.
Speaker 3: So implicitly, I guess there's an opportunity to sell that
Speaker 3: volatility to the people hedging a portfolio and then doing
Speaker 3: the other set on the other side. Yeah, that's exactly it.
Speaker 2: So you kind of need two things for this to work.
Speaker 2: You need the market dynamics to basically be volatile single
Speaker 2: stocks and kind of boring, you know, overall benchmark indices.
Speaker 2: But you also need the cost to make sense, so
Speaker 2: when you're buying that volatility, it all has to kind
Speaker 2: of net out. But recent months, for a while now
Speaker 2: that has been the case, and there's a lot of
Speaker 2: anecdotes on Wall Street that this trade is absolutely booming.
Speaker 3: Yeah, I mean we talk about these from time to
Speaker 3: time on the show. Sometimes it's expressed more directly and
Speaker 3: some sort of implicit short vix trade. Sometimes it's talked
Speaker 3: about very explicitly, like a few years ago, I don't know,
Speaker 3: twenty eighteen in or whatever, like the real short vix
Speaker 3: trade that blew up and never wanted to get it,
Speaker 3: the Vollmageddon trade. I don't remember what either. There was
Speaker 3: like twenty seventeen or two twenty eighteen or something like that.
Speaker 3: But from time to time, one thing that seems to
Speaker 3: be clear is that there are various flavors of trades
Speaker 3: that become very popular, and all that needs to happen
Speaker 3: is for roughly you don't even need the market to
Speaker 3: go up or anything like that, You just roughly need
Speaker 3: the status quota persists.
Speaker 2: Yeah, absolutely, I mean traders are very good at making
Speaker 2: money off of anything, sometimes even nothing. Basically the continuation
Speaker 2: of what's been happening.
Speaker 3: And you know the one thing and that you said
Speaker 3: it and you're intro and the consistency is that among
Speaker 3: people who say, like own the broad index or just
Speaker 3: own risk assets period, there is probably a persistent inclination
Speaker 3: to overpay for downside protection that premium, and that creates
Speaker 3: an opportunity then for someone to get on the other
Speaker 3: side and sell that premium.
Speaker 2: Yeah, and we are going to get into all of this.
Speaker 2: I'm very pleased to say we do, in fact have
Speaker 2: two perfect guests for this particular episode. We're going to
Speaker 2: be speaking with Michael Purvis, CEO of Tall back In
Speaker 2: Capital Advisors, and also Josh Silva, managing partner and CIO
Speaker 2: at Passaic Partners. So, thank you so much for coming
Speaker 2: on the show.
Speaker 4: Thank you great to be here.
Speaker 5: Why don't we.
Speaker 2: Start with an introduction? Tell us who you are and
Speaker 2: how you know each other.
Speaker 6: Well, I'll start. This is Michael Purvis, Tollbock and Capital Advisors.
Speaker 6: We are a cross asset research for which means we
Speaker 6: get into the major asset classes on how they kind
Speaker 6: of define each other. That means equities, that means rates, FX,
Speaker 6: sometimes commodities, but also volatility. I sat on various option
Speaker 6: desks over the years and I like to look at
Speaker 6: life in the markets a little bit through the lens
Speaker 6: of volatility. I'll let Josh describe himself and his firm.
Speaker 5: Sure, my name is Josh Silva, I'm the CIO and
Speaker 5: founder of Passaic Partners, a Deriva based asset manager who
Speaker 5: uses Deridis as a tool either to reduce risk, enhance risk,
Speaker 5: or manage a multi asset portfolio, looking at implied volatilities
Speaker 5: as an indicator of when to take risk and when
Speaker 5: not to.
Speaker 6: Josh and I have known each other for I don't
Speaker 6: know what ten years, twelve years now, and in full disclosure,
Speaker 6: Josh is a client of Tolbach and we also share
Speaker 6: office space, so.
Speaker 4: We're constantly talking about the markets.
Speaker 3: So Tracy and I don't have to do anything. We
Speaker 3: could just listen to gab about vall and that can
Speaker 3: be our episode.
Speaker 4: Yeah.
Speaker 5: I don't know how exciting everyone else would find that. Yeah,
Speaker 5: at least the two of us would be very excited
Speaker 5: about it.
Speaker 3: Tracy described it, and I pretended to sort of have
Speaker 3: some maybe intuitive sense of going on. But how would
Speaker 3: you either one of you could start like basically describe
Speaker 3: the legs or the basic construction of the dispersion trade.
Speaker 5: This is Josh. I'll start off first thing. I think
Speaker 5: you did a very good job of describing the trade
Speaker 5: quite frankly, but I will go into where the origins
Speaker 5: of it which is more fun. Yes, so you have
Speaker 5: an old Chicago pit trader. So let's go back in
Speaker 5: time to the old Chicago pits and.
Speaker 3: Yeah, already speaking our language.
Speaker 5: So it really came out of the ability to manage risk.
Speaker 5: I mean, were talking about a trade that was originally
Speaker 5: designed as a risk management trade. You know, post eighty
Speaker 5: seven and crash. You know, Chicago used to be just
Speaker 5: a bunch of single traders managing their own money. Post
Speaker 5: eighty seven crash, the people who survived ended up running
Speaker 5: a lot of big trading groups which I could have
Speaker 5: fifty to one hundred traders working for them in various pits.
Speaker 5: You know what ended up happening was when you survived
Speaker 5: the eighty seven crash, you learned I don't want to
Speaker 5: experience the eighty seven crash. And so this version trade
Speaker 5: came out of the ability to manage quite frankly, the
Speaker 5: tale of that risk back in the nineties. That changed
Speaker 5: as we got into dot com. And what I mean
Speaker 5: by that is it's sort of a familiar little taste
Speaker 5: to it. You have a certain sector which everyone's buying
Speaker 5: and everyone's making money while the rest of us are
Speaker 5: lonely owning the SMP and they're chasing upside, and so
Speaker 5: what that ends up doing is you would come into
Speaker 5: the pit. And I remember this with AOL specifically, if
Speaker 5: you can talk about an old stock, and all day,
Speaker 5: every day they were buying calls. Every day they were
Speaker 5: buying call spreads, and so you had to collect inventory
Speaker 5: to prepare for that coming bid into options. And so
Speaker 5: you ran that inventory long and to reduce your THETA
Speaker 5: or your decay bill, you would sell some index and voila,
Speaker 5: you have the start of the dispersion trade. Now, granted,
Speaker 5: that was at a time when spreads were significantly wider,
Speaker 5: volumes were significantly smaller, and the size of the notional
Speaker 5: amount was significantly smaller as well. And so that's how
Speaker 5: this sort of came about. And I think Tracy put
Speaker 5: it perfectly. You own a basket of single stocks, and
Speaker 5: you use the index to help reduce that risk. And
Speaker 5: at the end, both sides of that trade made money
Speaker 5: in the nineties as well, and so it became a
Speaker 5: very very profitable trade, which leads us into the two thousands.
Speaker 5: And again I've been doing this wait probably too long.
Speaker 5: I like to call it a trade in the nineties
Speaker 5: and someone taught me this a long time ago. There's
Speaker 5: trading and there's investing. It became an investment in the
Speaker 5: two thousands. In other words, it wasn't traders just moving positions,
Speaker 5: because when you trade, you can be very nimble, very quickly.
Speaker 5: And that's what market makers are very good at doing,
Speaker 5: which is we like to call picking up the nickel
Speaker 5: in front of the steamroller. And that's what the dispersion
Speaker 5: trade was originally in the two thousands and leading into
Speaker 5: two thousand and eight, two thousand and nine, it became
Speaker 5: an investment. In other words, I think I listened to
Speaker 5: your old podcast and EXIV became an investment. That's what
Speaker 5: the dispersion trade is becoming.
Speaker 2: Well, I have a question, which is it's kind of
Speaker 2: hard to tell how popular this trade actually is. Everything
Speaker 2: is sort of anecdotal. I remember when I first heard
Speaker 2: about it. It was actually from one of Michael's notes,
Speaker 2: and you've laid it out perfectly, Michael. But then I
Speaker 2: went back and I started doing some research and searching
Speaker 2: for mentions of dispersion trade, and one of the things
Speaker 2: I found was, you know, a mention in the Bear
Speaker 2: Traps Report where they were talking about multi strat funds
Speaker 2: putting quote massive amounts of money in the dispersion trade.
Speaker 2: But then you can't find actual figures, like it's very
Speaker 2: hard to find estimates for how much of this is
Speaker 2: going on. So walk us through, like what indications you
Speaker 2: might have or what you're looking at in order to
Speaker 2: determine how popular this trade actually is.
Speaker 6: Well one way to get a sense for that. And
Speaker 6: it's all kind of indirect, right, there's no big government
Speaker 6: report that talks about how much you know, how many
Speaker 6: options are in this trade, or how much capitalist is
Speaker 6: in this trade. But if you look at the CBO
Speaker 6: Implied Correlation Index, it actually is just now the three
Speaker 6: months implied correlation index is actually at the lowest levels
Speaker 6: it's ever been, and they have a couple of the
Speaker 6: one month implied correlation is also not exactly at record lows,
Speaker 6: but very very close to it. So that's a little
Speaker 6: bit of an indication where you can infer that certainly
Speaker 6: people are pushing this trade here.
Speaker 5: Yeah, and it's working, right, Everyone's making lots and lots
Speaker 5: of money on it, which is typically what happens in
Speaker 5: short ball trades. People tend to make a lot of
Speaker 5: money until they don't, right, and so you could go
Speaker 5: back to different ball events. I mean, we could talk
Speaker 5: about nineteen ninety seven, and we could talk about ninety eight,
Speaker 5: we could talk about eighteen, we could talk about twenty.
Speaker 5: There's different vall things that have occurred where you didn't
Speaker 5: know how big the trade was until you knew how
Speaker 5: big the trade was. And it's sort of the nature
Speaker 5: of short vault. It's so funny is that I've been
Speaker 5: doing this for a long time, marketing shortfall strategies. In
Speaker 5: twenty and twenty twenty one, you might as well had
Speaker 5: your hair on fire because nobody had any interest in it.
Speaker 5: Now everyone's interested in why, because it works, and when
Speaker 5: it works, it works very very well. The problem with
Speaker 5: all these things, as I always like to say, is
Speaker 5: when it becomes too big for the market and there's
Speaker 5: too much leverage, and so the question always is where
Speaker 5: is the size and where is the leverage and how
Speaker 5: much leverage does it take. We've learned through all these
Speaker 5: shortfall events it only takes one bad participant to create
Speaker 5: an unwine or a liquidation. And that's what we saw
Speaker 5: in ninety seven, that's what we saw in ninety eight,
Speaker 5: that's what we saw in twenty eighteen. So again this
Speaker 5: is not an unheard of thing.
Speaker 6: Right, I think, just to add on to that, I mean,
Speaker 6: one of the things you know, and I know Tracy
Speaker 6: and Jo are always focused on that vomaged in from
Speaker 6: February of twenty eighteen, which was this ETF right where
Speaker 6: you could see that ETF every day and you could
Speaker 6: see how that ETF crew. One of the things today
Speaker 6: with this dispersion trade and whether this will become a
Speaker 6: vommageddon two dot zero is that you don't have that clarity.
Speaker 6: It's a little the waters are a little bit murkier here.
Speaker 6: So you can pick up anecdotes here and there, you
Speaker 6: can look at implied in disease. You get a sense,
Speaker 6: you know, Josh is in the options market every day,
Speaker 6: and you pick up things, but it's hard to put
Speaker 6: a crisp number on it.
Speaker 5: It's the unknown, right, you're testing the unknown.
Speaker 3: So the thing about that inverse VICXYTF that blew up,
Speaker 3: it was a trade that existed in various forms for
Speaker 3: a while, and then someone went along and like productized it,
Speaker 3: and so then suddenly like you could see like it's
Speaker 3: am or it's daily volume. Just a quick definitional thing
Speaker 3: because I just so that listeners can understand when we
Speaker 3: talk about the c BO three month Applied Correlation Index,
Speaker 3: and it's basically at all time lows or near all
Speaker 3: time lows or something like that. That is just saying that
Speaker 3: based on the volatility of all the stocks that exist
Speaker 3: in the index, it suggests that there is a wide
Speaker 3: level of expected dispersion among the outcomes.
Speaker 6: Yeah, it's not every stock in the indexes, it's the
Speaker 6: top fifty. It's typically market cap weighted there, which is
Speaker 6: I think it's very relevant to today's discussion.
Speaker 3: Actually, can one of you explain just sort of like
Speaker 3: from a fundamental standpoint why it is that not in
Speaker 3: a realized basis, but on a trading basis, essentially, implied
Speaker 3: volatility for the index tends to be higher than if
Speaker 3: you add up all of the implied volves for all
Speaker 3: of these individual stocks.
Speaker 5: So it actually ends up the index ends up being
Speaker 5: lower because of the relationship of stocks with each other.
Speaker 5: So you know, when you think about it's like, but
Speaker 5: people pay more for the protection of the indet, they
Speaker 5: pay more for the implied versus real lias.
Speaker 3: Okay, that's that's sorry, that's right.
Speaker 5: Yeah, yeah, that's it. So they and the reason you
Speaker 5: know they do that is because, as you said, they're
Speaker 5: hedging downside. They're not hedging downside as much as they
Speaker 5: normally do right now. But that's a different conversation for
Speaker 5: a different day. The way it works is to think
Speaker 5: about it is that if you have this basket of
Speaker 5: single names that create the vall of the index is
Speaker 5: a combination of all those added up their variants plus
Speaker 5: their covariance, which is the matrix of how they're related
Speaker 5: to each other. So if tech stocks goes up and
Speaker 5: utilities go down, well, then that reduces the volatility index
Speaker 5: because they're moving in opposite directions. When they all move
Speaker 5: together is when the correlation trade has a problem, and
Speaker 5: that usually occurs in some sort of liquidation events.
Speaker 4: Okay, right, so think about it this way.
Speaker 6: So in a good benign market like we have right now,
Speaker 6: you could be long Metavol and you could be long
Speaker 6: Exxon ball and Exon might disappoint for some reason and
Speaker 6: the stock goes down and the ball explodes, maybe metas
Speaker 6: stock price or just higher for some reason. The ball
Speaker 6: may go up to there, you know, ignoring the actual
Speaker 6: weights of the in the index. If those two stock
Speaker 6: events cancel each other out. Yeah, the S and P
Speaker 6: is kind of flat, right, you know on those two things,
Speaker 6: but the dispersion trader may have made very good money.
Speaker 5: And Tracy put it perfectly. It's like, then the video
Speaker 5: is going up and the index is just kind of
Speaker 5: quietly moving higher, and that's because of correlation. I mean,
Speaker 5: if they're all correlated together, the index would be up
Speaker 5: as much as the video. So that's another way to
Speaker 5: think about it, which it's not right.
Speaker 2: Fund managers can dream, yes, we can all.
Speaker 6: Dream, right, but Joe just to put this kind of
Speaker 6: prosaically right, Yeah, like you know, when correlations go up
Speaker 6: really high and when this trade gets unwound viciously, right,
Speaker 6: think of that as the equity asset class being sort
Speaker 6: of in a zero one condition, Like people are just
Speaker 6: getting out right, They're like, Okay, I'm exiting equities because
Speaker 6: something bad is happening and I need to sell everything,
Speaker 6: whether it's Exon and Meta or a small cap or whatever.
Speaker 6: Right in a more benign condition where people are you know,
Speaker 6: I want to be inequities, right, but I'm going to
Speaker 6: really be able to discriminate among the fundamentals or whatever's
Speaker 6: driving that stock picking exercise, then dispersion works correlation both
Speaker 6: implied in realized drops.
Speaker 5: Yeah, I mean another way to think about it is
Speaker 5: it's another way of being short tails. Okay, Yeah, the
Speaker 5: hedge funds love being short tails. That's how they make money.
Speaker 2: So I want to go back to something that you
Speaker 2: touched on earlier, Josh Ware. You were talking about previous
Speaker 2: historical instances, and when I hear portfolio insurance that this
Speaker 2: is a type of portfolio insurance, I think black shoals,
Speaker 2: And then I start thinking about correlation, which we already
Speaker 2: touched on, and I guess people, you know, trying to
Speaker 2: figure out the correlation across a portfolio and maybe not
Speaker 2: doing it that well as you know the experience of
Speaker 2: nineteen eighty seven kind of taught us. Talk to us
Speaker 2: about the maths that go into this, and like, what
Speaker 2: guarantee I guess, or what comfort can we take that
Speaker 2: people are actually calculating correlation correctly, because again, like correlation
Speaker 2: is one of the trickiest concepts in all of finance
Speaker 2: and history is absolutely littered not just with nineteen eighty seven,
Speaker 2: but I mean you could argue two thousand and eight
Speaker 2: and the ghostiand Copula was also an instance of a
Speaker 2: failure to accurately capture correlation risk. But it seems difficult.
Speaker 5: It's incredibly difficult. And what I remember again going back
Speaker 5: in time, is when you look at these old Chicago groups,
Speaker 5: MO second most important person in the group was the
Speaker 5: risk manager. Because we're talking about times when you know,
Speaker 5: we're talking about Intel four twenty five trips or whatever
Speaker 5: those things are called. You know, we used to run
Speaker 5: risk matrices and stuff that you'd have to run overnight.
Speaker 5: Those computers are actually less powerful than your current phone,
Speaker 5: So that's the kind of way you'd have to look
Speaker 5: at it. So you need a really good risk manager,
Speaker 5: and you need someone who understands what that tale event
Speaker 5: looks like and what the portfolio is going to do.
Speaker 5: Do I have faith that, you know, I call some
Speaker 5: of the smartest people in the room, some of the
Speaker 5: people that I stood next to in the pit are
Speaker 5: going to be fine. Yes, I think they're actually going
Speaker 5: to make money on this event. Yes, because they're the
Speaker 5: smartest people in the room. I do think there are
Speaker 5: funds who probably do not have risk managers who understand
Speaker 5: that that do not have properly quantified that tail event
Speaker 5: risk and the biggest issue, which is the thing that
Speaker 5: scares me the most, is the liquidity aspect. And you
Speaker 5: can see what's happening in single stocks. I think BAA
Speaker 5: call it what the fragility index. I think was what
Speaker 5: they call it, which I thought was one of the
Speaker 5: funnier names. But that's a whole other thing. Stocks are
Speaker 5: moving all over the place, and why because there's no liquidity,
Speaker 5: and so wonderful thing about liquidity is when you're putting
Speaker 5: on a trade or an investment, as I like to
Speaker 5: say this again, I say, is an investment when you're
Speaker 5: training it like a market maker, it's a trade when
Speaker 5: you're putting it on and setting and forget it, it's
Speaker 5: an investment. Is that when you try to get out
Speaker 5: of it, it's really hard. And that was the experience
Speaker 5: of twenty eleven. Twenty eleven correlation traded over one. Why
Speaker 5: because you couldn't get out, and to get out you
Speaker 5: had to pay. And that's how these things go. And
Speaker 5: so what I like to say about these events is
Speaker 5: that when there is a liquidation, it'll be hard, it'll
Speaker 5: be fast, and it'll be dramatic like we saw with
Speaker 5: Vallmageddon or in nineteen ninety seven, which was a put
Speaker 5: seller that blew up, But typically the market after that
Speaker 5: is pretty awesome.
Speaker 6: Just to add on to that, I think what's really
Speaker 6: important when we were talking about these sort of vommageddon
Speaker 6: twos is to really distinguish that this doesn't necessarily mean
Speaker 6: something's broken economically or earnings wise, or fundamentally in any way,
Speaker 6: shape or form like we saw with Vamageddon. As we
Speaker 6: saw in two thousand and December of twenty eighteen, when
Speaker 6: you saw crazy price action, you know, the Vicks you know,
Speaker 6: was soaring into just before Christmas of that year.
Speaker 4: There was nothing wrong.
Speaker 6: There was a lot of questions about what power weather
Speaker 6: Pal's going to pivot and whether, you know, the whole
Speaker 6: far from neutral things setting that stage then, But that
Speaker 6: was a lot about modern market structure and the financialization
Speaker 6: of the equity asset class, which is very different than
Speaker 6: the nineteen nineties.
Speaker 4: Yeah, that's a very important thing.
Speaker 6: If you look at options growth, like you know, Josh
Speaker 6: and I talk about this all the time, but like
Speaker 6: S and P, options growth has been growing dramatically eight
Speaker 6: percent per year, and then that escalated in the last
Speaker 6: couple of years to much higher levels. Cash volumes have
Speaker 6: been completely flat.
Speaker 4: I'm talking S and P right.
Speaker 6: So when you have that, you're going to get funkier
Speaker 6: price action at the index level and at the single
Speaker 6: stock level too, with people chasing in Vidia calls or
Speaker 6: in Vidio puts, you know whatever, You're going to get
Speaker 6: a much more financialized and erratic price action, which can
Speaker 6: also then be one of the added matches to light
Speaker 6: the fire for you know, a potential VOMA get into.
Speaker 5: Yeah, it's again, it's you only need one bad player.
Speaker 5: I think the majority of people are not.
Speaker 2: Well, this is what I wanted to get into because
Speaker 2: with Volma get in, like okay, you could kind of
Speaker 2: see that coming, and in fact a lot of people
Speaker 2: did because you knew that once the Vicks curve inverted,
Speaker 2: it was just going to be the end for some
Speaker 2: of these volatility products, and two of them in particular
Speaker 2: with the dispersion trade. The one thing I struggle with
Speaker 2: is like what would be the proximate cause for the unwind.
Speaker 3: Or a telltale sign like the inversion, like this is
Speaker 3: flashing a yellow light.
Speaker 5: So in twenty eleven, it was a sovereign debt crisis
Speaker 5: that caused a liquidation in public equities or a fear
Speaker 5: of public equities movement in nineteen ninety seven, it was
Speaker 5: an Asian financial crisis. Everyone forgets that long term capital
Speaker 5: losts more money selling vaulve than they did on fixed
Speaker 5: income stuff. If you go read When Genius Fails, they
Speaker 5: have the numbers in the back, which is quite an
Speaker 5: interesting The guy who sold options in ninety seven, he
Speaker 5: wrote a book to about three months before it happened,
Speaker 5: which was kind of kind of funny.
Speaker 2: Isn't going to read that.
Speaker 5: The event's going to be something macro?
Speaker 3: Yeah?
Speaker 5: Like I always like to say, how do you get
Speaker 5: a five standard deviation event? You have to get the
Speaker 5: one standard deviation event which causes this to happen, which
Speaker 5: is the second which is what can I just fuse.
Speaker 6: Let's try to get to Joe's question. I think, but
Speaker 6: if we get a macro shock, right, you get a
Speaker 6: big uptick in people wanting to get out of the
Speaker 6: equity asset class. Yeah, right, and they run for the
Speaker 6: fences because something bad is happening. You know what's going
Speaker 6: to happen there is that the VIX index, right, which
Speaker 6: your index ball which you're short, is going to be
Speaker 6: rising much faster than your basketball. That you're long, right,
Speaker 6: and that's where the risk manager taps the dispersion trader
Speaker 6: on the shoulder and saying close out, and then you
Speaker 6: get a sort of a self fulfilling loop there.
Speaker 3: Well, let me put it a different way, which is that, okay,
Speaker 3: the thing that blows this up will be some macro
Speaker 3: event almost by definition unexpected. I don't think any of
Speaker 3: us in this room probably can like really know like
Speaker 3: when some country is going to break, et cetera. So
Speaker 3: at any given time you're putting on this trade, you're
Speaker 3: collecting premium. There's a risk that it blows up with
Speaker 3: a macro event. But at some point in between that
Speaker 3: there must be some calculation where you are not getting
Speaker 3: compensated enough in order to justify the risk that the
Speaker 3: once every five years or the once every ten years
Speaker 3: of macro blow up occurs. So what are those signs
Speaker 3: or whether it's in the pricing where it's like, yes,
Speaker 3: you could still make money on this trade because the
Speaker 3: math is there. But given the fact that there's going
Speaker 3: to be a macro blow up of some sort every
Speaker 3: few years or everybody like this is no longer worth
Speaker 3: the risk.
Speaker 6: The math is still there, you know, implied correlations are
Speaker 6: still higher than realize correlations. Okay, that's helpful, But the
Speaker 6: VIX is not at twenty five right now, right, It's
Speaker 6: down in this thirteen fourteen level. Right, so your risk
Speaker 6: return is not as constructive. Josh, just a grief if
Speaker 6: you will. But I don't think it's as constructive now
Speaker 6: as it was coming off this massive Vall spike we
Speaker 6: had during COVID, right where we've had this sort of
Speaker 6: general reacclimization to the shortfall thesis and various forms of fashions.
Speaker 4: Now it's just gone too far, too long. Yeah, I
Speaker 4: mean certain.
Speaker 5: And it's funny is that you actually pay decay in
Speaker 5: this trade because of the basketest single names is more
Speaker 5: expected incident when you're collecting on the index. I look
Speaker 5: at it as sort of you have the fixes at twelve,
Speaker 5: like how much more money can you bleed out of
Speaker 5: this road? I mean, it's really at that point. And
Speaker 5: that's what I'm saying about. The people who are smarter
Speaker 5: will have reduced this trade who aren't as an investment,
Speaker 5: like the Vall traders reduced short ball in twenty eighteen
Speaker 5: because they knew that twenty seventeen was a multi decade
Speaker 5: low moment we were moving what we moved two percent
Speaker 5: that year in the SMP on a two percent ballve
Speaker 5: because we want up one percent every month. You know,
Speaker 5: the joke is if we go up one percent every
Speaker 5: month for twelve months, it's the all of the SMP zero.
Speaker 5: So it sort of becomes one of those things. And
Speaker 5: so you just get to the point where you're a
Speaker 5: risk managery go what's the upside downside? And the downside
Speaker 5: becomes greater. So when I look at it as a
Speaker 5: person who's managing risk, I just reduce because how much
Speaker 5: more money can you take out of it? Now? Again,
Speaker 5: a lot of this is fundamentally driven by stocks and
Speaker 5: what's happening with stocks and who's making money. A friend
Speaker 5: of mine pointed out, you know, thirty five percent the
Speaker 5: SMP is now AI, right, So you know, how does
Speaker 5: that look?
Speaker 6: Think we should just set the table a little bit
Speaker 6: about what's been Why is this trade so popular right now?
Speaker 4: Right?
Speaker 6: And there's a lot of fundamental reasons that you know,
Speaker 6: if you're a dispersion trader, why you go to your
Speaker 6: boss and say, hey, we need to do this, here's why, right,
Speaker 6: And the reality is is that We're in a strange
Speaker 6: economic cycle, right. We have a risk on condition obviously, right,
Speaker 6: VIX is low, SMP keeps putting on good returns, and
Speaker 6: other risk assets do, right. But how these different sectors
Speaker 6: are moving with each other and the different stocks is
Speaker 6: incredibly low.
Speaker 4: Right.
Speaker 6: Part of that's because we have an unusual cycle. Like
Speaker 6: if you remember, you know, during COVID, oil prices went negative.
Speaker 6: Before that, Oh my god, why would you want to
Speaker 6: own Exon, you know at all? Because of ESG and
Speaker 6: all that, And then of course that reversed oil went
Speaker 6: to one twenty and Exon became you know, the new
Speaker 6: Google for a few months. Right, So you had a
Speaker 6: lot of strange things coming out of this COVID shock
Speaker 6: and all the compounding things there. But of course, you know,
Speaker 6: just in the last year you have AI, right. And
Speaker 6: so one of the things I like to look at
Speaker 6: is sort of how each sector correlates across with other sectors,
Speaker 6: not unapplied on a realized correlation, just the historic trading.
Speaker 6: And what's really interesting there is that if you average
Speaker 6: all the cross sector correlations ten sectors and you see
Speaker 6: how each one, you know, you get a grid. Right
Speaker 6: now that average is about the lowest it's ever been, right,
Speaker 6: the cross sector correlation. But what's I think even more
Speaker 6: relevant is that the tech sectors correlation is the lowest
Speaker 6: it's ever been but for nineteen ninety eight nineteen ninety nine.
Speaker 5: Which keeps getting us back to nineteen eighty eight nineteen
Speaker 5: ninety nine, right.
Speaker 6: And the tech sector is particularly important because the dispersion trade,
Speaker 6: generally speaking, is market cap weighted, and of course the
Speaker 6: tech sectors are dominating the S and P five hundred here.
Speaker 6: So that's one reason why you know, you can say,
Speaker 6: oh my god, like, look at Nvidia, it's so different
Speaker 6: than so many other stocks that if you look at fundamentally,
Speaker 6: the BAG six earnings of this year have exploded twenty
Speaker 6: two percent, the SBX equal weights to four percent. Right, Like,
Speaker 6: there's a lot of fundamental arguments suggesting why this trade
Speaker 6: makes sense here. I think what Josh and I are
Speaker 6: collectively saying is that the trade's been pushed too far here.
Speaker 6: And there's another point I really want to make here too,
Speaker 6: which is that you know, there's a lot of cross
Speaker 6: ass at comparisons with the late nineties right now, interest rates.
Speaker 4: And so forth. Here.
Speaker 6: But what's really interesting is is that the correlations for
Speaker 6: tech and the correlations broadly speaking on a realize basis
Speaker 6: are much more similar to ninety eight and ninety nine
Speaker 6: than there were today. But the VICS back then was
Speaker 6: twenty to twenty five to thirty. It was not go
Speaker 6: back to twenty seventeen, super low VIX, right. You know,
Speaker 6: we even had nine handle prints at one point there,
Speaker 6: and the correlation was very low then. It's very low
Speaker 6: now here. But twenty seventeen was a period when you
Speaker 6: had a very different central banking environment. One of the
Speaker 6: sort of broader cross asset theses I'm arguing is that
Speaker 6: we are normalizing a lot of central bank policies. Are
Speaker 6: not normalizing to twenty seventeen, but to something else, right,
Speaker 6: and if that happens, we may see the vis. I
Speaker 6: think the VIX is getting into a higher range here,
Speaker 6: a higher floor, if you will. And if that happens,
Speaker 6: maybe you don't even need a macro shock to derail
Speaker 6: this dispersion trade. If the VIX is going to start
Speaker 6: sort of grinding higher just because that fed put is
Speaker 6: too far out of the money right now.
Speaker 5: And I think one of the big things you're seeing
Speaker 5: is the lack of put buying in general compared to
Speaker 5: nineteen ninety eight. And the big thing in nineteen ninety
Speaker 5: eight is that we had never seen a FED put
Speaker 5: come in like we have since, and so I think
Speaker 5: the market is comfortable with the FED put coming in,
Speaker 5: So why own puts.
Speaker 2: I definitely want to get into more of like the
Speaker 2: outlook for volatility in general, but before we do, I
Speaker 2: have one more question on the dispersion trade, which is
Speaker 2: can you walk us through who is on the other
Speaker 2: side of this? So maybe hedge funds or some other
Speaker 2: type of trade or are putting this trade on, who
Speaker 2: is selling or buying that volatility from them? There's two
Speaker 2: legs to the trades.
Speaker 5: So back when I was more on the cell side,
Speaker 5: not just more, I was on the cell side. So
Speaker 5: it's twenty eleven.
Speaker 4: You had a.
Speaker 5: Lot of structured retail product trades coming out of Europe
Speaker 5: and Asia that put a lot of single stock vall
Speaker 5: onto investment banks books. They would then sell index as
Speaker 5: a way of getting out of some of that because
Speaker 5: there wasn't enough liquidity in certain things. They did the
Speaker 5: same thing with dividends. They typically get long dividends, and
Speaker 5: so you assume certain dividend growth, and so that's the
Speaker 5: sort of the growth of the dividends swap market as well.
Speaker 5: So they would then use hedge funds as a way
Speaker 5: of off laying that concentrated single stock versus index risk.
Speaker 5: And the reason being is because it doesn't look great
Speaker 5: on of our perspective because you're short tails, and so
Speaker 5: when your var numbers get a little bit too the
Speaker 5: wrong way, obviously the risk march investment banks that you
Speaker 5: need to offload this, and so that what happens is
Speaker 5: they do tend to off load that risk. You know
Speaker 5: where it's coming from now. And again this is totally
Speaker 5: me guessing on the fact of what I'm seeing. Is
Speaker 5: it seems like the market is short single names and
Speaker 5: long index. In other words, if you look at you know,
Speaker 5: with the Burgoci'll put out, oh, the you know, the
Speaker 5: broker market is long ten billion dollars of front month
Speaker 5: gamma or one day gamma going into CPI and then
Speaker 5: the market moves like three percent and everyone's like, well,
Speaker 5: how's that happen. I'm like, well, it's because they're probably
Speaker 5: short single names and a lot of this data. And again, Tracy,
Speaker 5: you put it perfectly like there's no central depository of data.
Speaker 5: We become so data centric in this world. Like I
Speaker 5: feel like when I started in this business, I was
Speaker 5: like the data junkie, and I always obsessed with data
Speaker 5: and what it meant. And then I've realized, well, if
Speaker 5: you know, it's like kind of like looking at baseball,
Speaker 5: when everyone's using data, sometimes you got to move away
Speaker 5: from it to a degree. And there isn't a good
Speaker 5: data set. The only data that we have is what
Speaker 5: Michael's point out is, there's just a massive growth in
Speaker 5: volumes and open interest in options. Everyone's using them, everyone's
Speaker 5: paying attention to them. And so my general feeling is
Speaker 5: that the market is probably long a little bit of
Speaker 5: index and short a little bit of single names.
Speaker 2: So I know you guys are both options guys for
Speaker 2: the most part, But what impact does all that growth
Speaker 2: in the options market end up having on the cash market.
Speaker 2: This is something that comes up again and again, and
Speaker 2: as you say, like the figures if you look at
Speaker 2: the overall market are just stunning, and particularly for things
Speaker 2: like the short dated options, so the one or the
Speaker 2: zero day options. I don't have them in front of me,
Speaker 2: but like talking about lines that go up into the
Speaker 2: right it's just been stunning growth.
Speaker 5: Yeah, is I like to say the tail starts wagging
Speaker 5: the dog a little bit. And I've seen this when
Speaker 5: I was in Europe, when options got bigger, almost than
Speaker 5: the ability to trade stocks. They become the market. You
Speaker 5: see this at month end, where you see large positions
Speaker 5: and options determine how we end the end of the month.
Speaker 5: Is people play cards to determine where we're going to settle.
Speaker 5: I like to say, like the month end is like
Speaker 5: kind of the old fun way of trading. If you've
Speaker 5: ever seen the movie Rounders, which is one of my
Speaker 5: favorite movies, which is a bunch of professional poker players
Speaker 5: from New York go down to the taj and they
Speaker 5: sit at a table and go, we're not going to
Speaker 5: sit here and play against each other, because it's the point.
Speaker 5: And then people sit down at the table that don't
Speaker 5: understand how it works and they just start making money.
Speaker 5: And that's what's happening at month Then there's large passive
Speaker 5: option positions that people are aware of and they trade accordingly.
Speaker 5: And so in that sense, yeah, the tail is wagging
Speaker 5: the doll. And again, when you look at this again,
Speaker 5: it would happen in the nineties where you have if
Speaker 5: every day people are buying calls on AOL or calls
Speaker 5: on Navidia or calls on Apple like they are in
Speaker 5: the last few days, it can drive a stock significantly
Speaker 5: higher or lower. And that's why I think you see
Speaker 5: these large ranges occurring because the options are wagging the dog.
Speaker 2: It's almost like it becomes kind of reflexive at that point, right,
Speaker 2: Like you have all the options that are betting on volatility,
Speaker 2: and so because of all those options, you start seeing
Speaker 2: bigger swings correct.
Speaker 6: One of the interesting things is that, you know, we
Speaker 6: talked about like the VIX floor being twenty back in
Speaker 6: the late nineties, but even though the equity market was
Speaker 6: doing generally quite well most of the time, but the
Speaker 6: peak of the vics in that same time frame, you
Speaker 6: had the Russian ruble crisis, you had the Asia crisis.
Speaker 6: The peaks there were exceeded by vomag Edden speak or
Speaker 6: at the same level here, which was again not a
Speaker 6: fundamental driven thing. So it's really a good way to
Speaker 6: think about just that was sort of a more normal
Speaker 6: VIX environment because there was just you didn't have the
Speaker 6: financialization of the stock market the way you'd have it.
Speaker 5: And again, this is a short tail strategy. It's like
Speaker 5: a converts or a short stale strategy. You know, credits
Speaker 5: to short tail strategy. There's what hedge funds live with.
Speaker 5: I mean, that's what they're really good at doing, is
Speaker 5: selling that tail and managing that risk. And so that's
Speaker 5: where we are.
Speaker 2: Also, Joe, I think people forget nowadays. But like the
Speaker 2: Vollmageddon blow up, so that was like two relatively small etns. Yeah,
Speaker 2: that ended up going belly up, but that sparked a
Speaker 2: sell off, a pretty big sell off in like the
Speaker 2: cash market in the S and P five hundred. People
Speaker 2: forget that, Yeah.
Speaker 3: I forget that element of it that it did break
Speaker 3: containment so to speak, outside of the etns themselves. Can
Speaker 3: we go back to I don't want to just talk
Speaker 3: about AI because AI is a thing, but the AI
Speaker 3: risk factor, which is it seems like a lot of
Speaker 3: the market now many things are being shoved into an
Speaker 3: AI thesis. So it's like Uve, Nvidia, Obviously, you have
Speaker 3: other chip companies. Obviously you have Apple hitting all time highs.
Speaker 3: You have that feeds into Berkshire Hathaway, which owns a
Speaker 3: lot of Apple et cetera. Can you talk a little
Speaker 3: bit more about this sort of not necessarily price correlation
Speaker 3: because we know that I guess you know, the charts
Speaker 3: are the charts, but this sort of thematic correlation, and
Speaker 3: then how you see that affecting the risk.
Speaker 4: Or narrative correlation? Right, narrative quarter coperate or utilities are
Speaker 4: a utilities?
Speaker 3: Yeah, totally industrials.
Speaker 5: I like to say, Wall Street's good at doing one
Speaker 5: thing really really well, selling.
Speaker 4: Greed and telling stories.
Speaker 5: And so they can tell a story about getting people
Speaker 5: to get greedy about this theme. They're really good at
Speaker 5: making money off of it. And so everybody wants to
Speaker 5: sell this theme right now, Like you can sell this theme,
Speaker 5: sell the theme of AI. I mean na video Navidio.
Speaker 3: By the Stocks sell the thing.
Speaker 4: Yeah.
Speaker 5: I mean it's if you think about I mean, the
Speaker 5: video is making incredible amounts of money. I mean the
Speaker 5: amount of money they make in a quarter, I mean
Speaker 5: I never thought was imaginable. Yeah, so of course it's
Speaker 5: a great theme to sell. Now is everyone else going
Speaker 5: to be as good at this theme as them? I
Speaker 5: don't know, But it doesn't mean that Wall Street isn't
Speaker 5: going to sell it.
Speaker 6: But to answer, your question about is there like theme
Speaker 6: correlation to.
Speaker 3: All these training models and one day it's like, you
Speaker 3: know what, they're mostly good for making, but we can't
Speaker 3: figure out how to make money on them canceling the orders.
Speaker 3: But then what happens to this trade?
Speaker 6: I think that's a really good question and very relevant one.
Speaker 6: But I'm going to put up back like my market strategy,
Speaker 6: equity market strategy had on, not my options had on.
Speaker 6: And the thing you have to recognize about today's equity
Speaker 6: market is that it's not necessarily particularly expensive at the
Speaker 6: s and P five hundred level.
Speaker 4: There.
Speaker 6: Obviously there's always parts of it that are a little
Speaker 6: bit high, a little bit low. The SMB is not
Speaker 6: cheap by most any standard here. But what's very important
Speaker 6: is that we're not really driven with a pe expansion
Speaker 6: type of bull market right now. It's really earning's driven here, right,
Speaker 6: And if you look at what sectors are moving higher,
Speaker 6: it's very correlated with how much earnings growth that they're
Speaker 6: doing here.
Speaker 4: Right.
Speaker 6: So let's say, okay, let's say if utilities just don't
Speaker 6: generate their earnings that some of the AI narrators might
Speaker 6: suggest they will, Well, that's going to be reflected and
Speaker 6: the quarterly reports, the analyst estimates, and it doesn't necessarily
Speaker 6: have to mean that there's some big blow up risk
Speaker 6: because of this AI thing. I think it's we're dealing with,
Speaker 6: in many respects, one of the healthiest equity markets we've
Speaker 6: seen in a long time time, because it's not really
Speaker 6: about pe expansion. It's really about really strong earning.
Speaker 3: Screen and it hasn't been about zerp or rate cuts either.
Speaker 4: Now exactly what companies are making money.
Speaker 6: We're having great returns last year with a hawkish or
Speaker 6: at least maybe not hawkish fed but as we saw yesterday,
Speaker 6: but not like, oh my god, we got a cut
Speaker 6: rates to get the s and p up another ten percent.
Speaker 4: That's not happening.
Speaker 5: I mean, companies are really making money. And so when
Speaker 5: we talk about this dispersion trade, from a fundamental standpoint,
Speaker 5: the companies making money or going up and the ones
Speaker 5: who aren't are going down, and so fundamentally it's a
Speaker 5: risk trade. I think, Joe you put it once, it's
Speaker 5: like owning equities is kind of a short ball trade
Speaker 5: to degree, and that's kind of what this is. It's
Speaker 5: a short vaulta degree and owning equities is part of that.
Speaker 5: And you know, that's a trade that people are comfortable with. Now,
Speaker 5: is there a time it goes Yeah? But I truly
Speaker 5: think that, you know, Vall gets a bad name and
Speaker 5: options get a bad name in a lot of ways
Speaker 5: because we have these once in a while bad players
Speaker 5: in the market. I mean twenty twenty we had a
Speaker 5: bad player as well. I mean, that's a lot of
Speaker 5: what happened. And at the bottom was a VALL related event.
Speaker 2: But that's are you talking in treasury or no.
Speaker 5: No, no, no, I'm talking about why the market was
Speaker 5: going up and down ten percent in one day. We
Speaker 5: can't many anymore. There was a product out there that
Speaker 5: created a lot of the VALL that occurred at the bottom.
Speaker 5: If you go look at the bottom, it was right
Speaker 5: when the vics expired. So that's just another conversation for
Speaker 5: another day. But that being said, they have a bad name.
Speaker 5: And I still think that this market, as long as
Speaker 5: Michael puts it perfectly, these companies are making money. There's
Speaker 5: a fundamental reason for this. We have fundamentally a reason
Speaker 5: why we're going up into the right and as long
Speaker 5: as that goes on. As Jo said, this equity market
Speaker 5: is a short vault trade. This is a short fault trade.
Speaker 5: It will work if we go into an O one,
Speaker 5: O two where all of a sudden, what do you
Speaker 5: call it, Y two k goes away and everyone stops
Speaker 5: making the investment in Y two k, which is sort
Speaker 5: of the end or Dogs dot Com all of a
Speaker 5: sudden realize we don't have Dogs dot Com not making money,
Speaker 5: So it's different. As long as those fundamentals are strong,
Speaker 5: this will be fine. You know. I don't think as
Speaker 5: options are going to be as big of a problem
Speaker 5: because everyone's had problems with them, so people are aware
Speaker 5: of it. Again, it's not saying there isn't one player
Speaker 5: who is an out there who's over levered, who's put
Speaker 5: this on in an investment. And again we started this
Speaker 5: as the dispersion trade, not the dispersion investment, and there's
Speaker 5: a huge difference between a trade and an investment.
Speaker 4: Yeah, but I.
Speaker 6: Think all of this, Joe's also one of the reasons why,
Speaker 6: you know, when I do my trade recommendations for market hedging,
Speaker 6: I've certainly been of the view this year that I've
Speaker 6: been very constructive on the equity market. Obviously, anything can happen,
Speaker 6: but the question is do you want to hedge equity
Speaker 6: market risk with S and P puts or with VIX calls.
Speaker 6: And I think this is one of the arguments for
Speaker 6: going with VIX calls. Not that we've seen anything explosive
Speaker 6: yet this year, but if we do see some of
Speaker 6: these things unwined, ye, you're going to get a kicker
Speaker 6: there where you might see the VICS cruise very quickly
Speaker 6: up to forty five. And it probably won't stay there
Speaker 6: unless there's a real good fundamental reason for that to happen.
Speaker 6: But if you do get this volma get into a
Speaker 6: dot zero, that's.
Speaker 2: And you buy that tip to forty five is exciting
Speaker 2: given that we haven't really seen that since like early
Speaker 2: twenty twenty. But talk to us. I guess about the
Speaker 2: general outlook for volatility, particularly cross asset, because so far
Speaker 2: the big story for the past few years has been
Speaker 2: volatility in fixed income. I'm looking at the MOVE index
Speaker 2: right now versus volatility and equities viz.
Speaker 3: The VICS.
Speaker 2: There's just been this enormous gap, like all the interesting
Speaker 2: stuff has happened in.
Speaker 6: Yeah, the way I look at it is that the
Speaker 6: treasury volatility sort of the foundation of the house on
Speaker 6: which so much other volatilities, FX volatilities, equity volatilities, foreign
Speaker 6: equity volatilities are sort of sitting on top of So
Speaker 6: if you look at the move index and Tracy, I'm
Speaker 6: looking at your chart right now.
Speaker 4: If you look at that, it basically.
Speaker 3: Tracy, put your privacy screen up, so.
Speaker 5: I don't have a screen in front of the eyes
Speaker 5: too much.
Speaker 2: Joe, don't say anything bad about our guests in the gap.
Speaker 2: So far, everything's been very flattering, so we're good.
Speaker 6: But that sharp basically shows the ark of the hiking cycle,
Speaker 6: right And if you look at when that move indeck
Speaker 6: started breaking out higher, it was March of twenty twenty
Speaker 6: two when the hiking cycle started. And officially, I guess,
Speaker 6: assuming we don't get any more hikes, which we probably won't,
Speaker 6: you know, that was last a lie. It's kind of
Speaker 6: just stayed there. And if you look at the long
Speaker 6: term history of the treasury volatility or the move indecks,
Speaker 6: when you get to that resting place, the ball comes
Speaker 6: down a lot. Now, there was a lot of all
Speaker 6: late September and October, which was I would argue with
Speaker 6: much more term premium ball there. That's maybe a subject
Speaker 6: for another discussion. But early this year we had seven
Speaker 6: cuts priced and then we went to one cut priced.
Speaker 6: And right now treasury volatility should continue to contract, you know,
Speaker 6: because we're kind of in the short strokes. There's this
Speaker 6: not too much maybe we get something that maybe you know,
Speaker 6: I think there's an argument as we get into the
Speaker 6: elections that maybe the term premium should expand and we'll
Speaker 6: see a little bit more craziness as we get closer
Speaker 6: and closer to November. But I think and I think
Speaker 6: Josh would agree that we're kind of both bearished treasure
Speaker 6: revolve in the near term right now for all the
Speaker 6: obvious reasons that you know, we're in a tweaking situation,
Speaker 6: not any large scale things, and you know, the CPI
Speaker 6: comes a little hot, a little cold, but basically you
Speaker 6: sort of know where the trends are and you know,
Speaker 6: there's just not much more room here. The broader thing, though,
Speaker 6: is that are we going to go see a big
Speaker 6: decline in treasury volatility like we used to know? Right
Speaker 6: you know, back when we had basically zerup and you know,
Speaker 6: like if you look at the ECB's policy rates, they
Speaker 6: were like stuck in concrete at negative levels for six
Speaker 6: years until finally inflation sort of broke up that concrete.
Speaker 6: So if you look at things like the amount of
Speaker 6: negative healing debt in the world that's gone from nineteen
Speaker 6: trillion a couple of years ago to like zero today,
Speaker 6: there is a strategic retreat away from these ultra dubbish policies.
Speaker 6: And I think as that happens, and you're starting to
Speaker 6: see more geopolitical news developed, you know in Europe, you know,
Speaker 6: election wise, deglobalization, they are all that stuff, to my mind,
Speaker 6: should help support higher term premium and also higher rate
Speaker 6: volatility across the curve over.
Speaker 4: The broader things.
Speaker 6: So I get I want to link that back to
Speaker 6: this notion of to remember that you had great equity
Speaker 6: markets in ninety eight ninety nine, and you had a
Speaker 6: VIX much higher than it is right now.
Speaker 4: I think that's a.
Speaker 5: I mean also, like this summer seems like it's lining
Speaker 5: up to be quiet because we have the most that
Speaker 5: the most certain yeah, except for August, right, the election
Speaker 5: certainty is we know what we got, Everyone knows where
Speaker 5: everyone stands, so there's nothing uncertain there. Let's say, you know,
Speaker 5: unless one of the two people isn't running, but that's
Speaker 5: another question for another day. So that's there. As I
Speaker 5: said earlier, I look at and applied volatilities across ASCID
Speaker 5: classes across the globe. One of the things I also
Speaker 5: look at is credit. So credit is as tight as
Speaker 5: it's ever been, and there is a huge correlation between
Speaker 5: credit and vall, especially in times of stress. And so
Speaker 5: I think that the credit picture, I think would be
Speaker 5: the one that would make me the most concern if
Speaker 5: we start seeing you know, everyone's talking about, you know,
Speaker 5: we're going to come to the cliff, and the cliff
Speaker 5: keeps moving of the credit or the real estate market
Speaker 5: or whatever. We'll see what happens. Right, everyone says it's
Speaker 5: this fall we're gonna find out. So I think the
Speaker 5: summer is going to be what it's going to be,
Speaker 5: and we'll see what happens in the fall.
Speaker 6: I'm less worried about a credit event. I'm sure there's
Speaker 6: going to be isolated credit events, but I think it's
Speaker 6: been pretty well signaled. You know, the real state issues.
Speaker 5: It's just real tight.
Speaker 6: Yeah it's been real tight, but there's there's good reasons
Speaker 6: for it to be real tight, and more buyers. But look,
Speaker 6: to me, what I think is interesting and again the
Speaker 6: elections are really starting to come into close focus. And
Speaker 6: one of the things that I'm thinking, you know, like
Speaker 6: you typically get the questions like what do you do
Speaker 6: with the equity market on the election? To me, I
Speaker 6: think the real question is what do you do with
Speaker 6: the bond market on the election? Because what I hear
Speaker 6: from either side, either side of the aisle, there's no
Speaker 6: real plans not announced yet anyway, about how we're going
Speaker 6: to whip inflation. Now right, It's obviously been Biden's achilles heel,
Speaker 6: but a lot of Trump's policies have been at the
Speaker 6: margin at least as inflationary, maybe more so if he
Speaker 6: puts his fingers on the scale of the FED. That's
Speaker 6: where I think the bond market, in the bond market
Speaker 6: volatility discussion gets love.
Speaker 5: And that's going back to the original conversation. If the
Speaker 5: bond market volatility goes up, that's when the dispersion question
Speaker 5: becomes more. So you can almost look at dispersion as
Speaker 5: a way of thinking about bondball because those are the
Speaker 5: correlated one events.
Speaker 4: Right.
Speaker 2: I like that we've come full circle to the beginning
Speaker 2: of this conversation. So I mean we could talk for
Speaker 2: like hours and hours and hours about.
Speaker 3: All we could just listen to you.
Speaker 2: Yeah, well, listeners, if you are interested in hearing more
Speaker 2: from Michael and Josh, they have their own podcast called
Speaker 2: the Macro and Volatility Podcast, so you can.
Speaker 3: Definitely check that out.
Speaker 2: Yeah, exactly, Josh and Mike, thank you so much for
Speaker 2: coming on all thoughts. Really appreciate it.
Speaker 5: Thank you so much for having us.
Speaker 4: Yeah, this was great.
Speaker 3: Thanks so much, Joe.
Speaker 2: I love that conversation.
Speaker 3: Yeah, I did to, you know, I really liked this
Speaker 3: idea trades becoming investment. We once was a trade, whether
Speaker 3: it's short volatility, whether it's the dispersion trade, something that
Speaker 3: traders put on, and in my mind I sort of think,
Speaker 3: you know, like, yeah, it kind of makes sense. It's like,
Speaker 3: if you're long stogs your short volatility, why not just
Speaker 3: do the short volatility component alone and strip away all
Speaker 3: this stuff and just get what you're at. I can
Speaker 3: see how these things become investments over time. Absolutely.
Speaker 2: The other thing that stuck out at me was just
Speaker 2: the reflexivity of all these changes in markets, and I think,
Speaker 2: I hope maybe this is wishole thinking. I hope there
Speaker 2: is a greater recognition nowadays that you can get the
Speaker 2: tail wagging the dog scenario that Josh described, and we
Speaker 2: have seen various instances of it, Vollmageddon being the prime example.
Speaker 2: And it seems like when we're talking about a sort
Speaker 2: of opaque market activity like the dispersion trade, where we
Speaker 2: don't really have a good sense of how big it is.
Speaker 2: We can kind of try to triangulate it through looking
Speaker 2: at implied volatility and things like that, but we don't
Speaker 2: have a good sense. It feels to me like that
Speaker 2: is a very worthy question to ask, like how much
Speaker 2: would a big unwind actually end up impacting the market?
Speaker 3: Yeah, so we don't have an equivalent of this trait
Speaker 3: of XIV. There's not some ETN where you can just
Speaker 3: lazily go and click three letters into your robinhood or sit.
Speaker 2: But there is a CBOE dispersion index. So there is, Yeah,
Speaker 2: and I think there's a product attached to it, but
Speaker 2: I can't remember the exact name.
Speaker 3: Maybe, but oh, by the way, I'm definitely going to
Speaker 3: become one of those people that like, so, you know,
Speaker 3: i'd check the VIX everyone, so while would check the
Speaker 3: move et cetera. I'm going to now add the CEBO
Speaker 3: three month Implied Correlation Index to those things that I
Speaker 3: tweet from time to time and hopes so sounds like
Speaker 3: oh new lo in the CEBO three month applied correlation Index.
Speaker 3: Get a few retweets on that.
Speaker 6: Well.
Speaker 2: The other thing I I was thinking about was that
Speaker 2: idea of like the rerating of the AI sector what
Speaker 2: that would actually mean, because again I think about correlation
Speaker 2: and like correlation in many ways is the trickiest concept
Speaker 2: in all of finance, but it's also at the heart
Speaker 2: of all of finance, and so I guess my question
Speaker 2: is if investors were suddenly to become disillusioned with AI,
Speaker 2: or if there was a mass recognition that actually the
Speaker 2: profits that were expected aren't coming through to the sector,
Speaker 2: what would that knock on effect be? Like Josh mentioned
Speaker 2: investment and the idea that in the early two thousands
Speaker 2: everyone was investing in these new internet companies and then
Speaker 2: suddenly that stopped, is a similar situation with AI. Now
Speaker 2: what would the mass impact be if AI was rerated,
Speaker 2: the investment stopped, and then we get these knock on
Speaker 2: effects in the market as well.
Speaker 3: Tracy, I have a really good idea for us. Okay,
Speaker 3: there's a bunch of bluegrass songs. They have breakdown in
Speaker 3: the headline Bluegrass breakdown, Foggy Mountain breakdown, Earl's breakdown, et cetera.
Speaker 3: Can we write it? I saw it together called correlation breakdown, Like.
Speaker 2: Oh, I would love that, right, But also I really
Speaker 2: want you to write that other song. Yeah, I gave
Speaker 2: you this is a non finance song. But I had
Speaker 2: a brilliant country song idea, and I've sold the rights
Speaker 2: to Joe.
Speaker 3: Well, we're gonna share them. But yeah, let's write correlation
Speaker 3: breakdown sometimes.
Speaker 2: Yeah, let's do it.
Speaker 3: Okay, Okay, shall we leave it there? Let's leave it there.
Speaker 2: This has been another episode of the Odd Lots Podcast.
Speaker 2: I'm Tracy Alloway. You can follow me at Tracy Alloway.
Speaker 3: And I'm Joe Wisenthal. You can follow me at the Stalwart.
Speaker 3: Follow our guests. You can ping them on the terminal.
Speaker 3: Michael Purvis, CEO and founder of Tullback and Capital Advisors.
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Speaker 3: Carmen Rodriguez at Carman armand Dash, Ob Bennett at Dashbot
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