From Goldman’s Tony Pasquariello
Judgment Time … Options Include:
- get bearish S&P for a trade.
- don’t fight the primary trend — this is a melt-up, and there are good (macro) reasons behind it.
- simplify the portfolio; wait for better location to re-load length.
A case for door #1:
- US equities are OWNED right now. positioning metrics look very stretched (particularly for the levered community and retail money) and the options market smells of complacency.
- the second derivative of global growth will likely turn lower; see first chart below on why that could really matter.
- plot crude oil, high yield, small cap or the banks — all of these assets are encountering some turbulence.
- coming out of this week, policy expectations surrounding the new administration need to be reconsidered.
A case for door #2:
- in February, the Current Activity Index printed its best month in a decade and financial conditions … got easier (as. the dollar and the bond market were well behaved; link). in English: the interplay between global growth and financial markets is a stock operator’s dream.
- a global cyclical upswing was taking shape before the US election; that narrative remains intact today and will underpin cyclical assets irrespective of DC headlines.
- failure to pass healthcare reform doesn’t necessarily doom tax reform nor other pro-cyclical policy ambitions (deregulation, fiscal expansion).
- unless you foresee a recession, it’s unlikely that stocks will trade lower; see very last chart at bottom. again, don’t ignore the history book.
A case for door #3:
- some blend of the previous points, principally that global growth is apt to slow from its locally best levels — but, it will remain durable enough.
- the policy path will be erratic and come up short of the highest hopes from late ’16 — but, in the end, you’ll end up with some degree of lower taxes / less regulation / more fiscal spending.
- the Fed is neither fish nor fowl. which is to say, the FOMC ain’t as dovish as they appeared last week — nor will they normalize policy in a manner that dislocates risk assets.
- it may sound like heresy, but maybe the macro trading in 2017 winds up being … boring. who would have thought coming out of last year that Q1 would see a collapse in both realized and implied volatility (sales & trading colleague Brian Garrett notes that only 8% of S&P 500 constituents, over the past three months, out-realized where implieds were marked at yr end).
Bottom line and some trade ideas: put me in camp #3. I’m leery of short-term technicals and the news feed, while still of the view that stocks enjoy a healthy macro backdrop. therefore, I like reducing both net and gross exposure and swapping physical exposure into options.
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A few ideas, pls ask for specifics if you’d like ‘em:
- for the bulls … May expiry upside calls on S&P … I don’t think call wing implieds can go much lower.
- for the bulls … May expiry upside calls on SX5E or SX7E … on a clean election outcome, I think pent-up capital makes its way to European equities (and, perhaps from here to there).– what I really like is options that pay out on an SX5E rally … with the condition that S&P trades higher but underperforms … specifics available.
- for the bears … short-dated put/call skew on RTY is near all-time lows (25dp – 25dc implieds).
- for the bears … puts or put spreads on HY ETFs … protect you from a lot of things.
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Other stuff / charts:
1. attached is a comprehensive assessment of global oil supply and demand dynamics. punchline as I read it: “our Top Projects database of the industry’s new oil & gas developments shows that 2017-19 is likely to see the largest increase in mega projects production in history, as the record 2011-13 capex commitment yields fruit. this long-lead-time wave of projects and a short-cycle revival, led by US shales, could create a material oversupply in 2018-19.”
2. YTD: SHCOMP +5%, HSI +11%, HSCEI +12% (best start since ’06). lest it be said, the Chinese asset story is in a profoundly better place than most would have expected a year ago; even the bears feel pretty neutral right now. against the backdrop of better global growth and easy US financial conditions, as well as underweight index investors, I suppose this makes sense — although I’d remain in the medium-term bear camp.
3. bigger picture, this has been the best start for EM equities in 11 years (MXEF +13%). the same growth / rates interplay applies here. as sales & trading colleague Scott Rubner notes, all the outflows from EM debt and equity funds in the aftermath of the US election have been recouped.
4. at the start of 2013, there was quite a bit of hype surrounding expectations for asset allocation out of bonds and into stocks. that narrative wound up getting lost in H1’13, only to quietly play out post taper tantrum. anyway, I bring it up b/c at the time I remember there were 3 preconditions you needed to believe in: (1) confidence in the durability of US growth; (2) good equity performance; (3) bad fixed income performance. you can probably see where I’m going with this.
5. courtesy of GIR’s Ben Snider, an illustration of the interplay between stocks and the industrial cycle:
6. simple plot of the term structure of equity implieds. I have no quibble with SX5E given the election premium, nor NKY as it tends to trade with at the whim of global risk sentiment. the wild part to me is S&P … i.e. we slope down in the front of the curve (blue line):
7. YTD sub-sector returns … some fairly serious moves in just one quarter, with respect to both magnitude and divergence:
8. as many other thematic trades have come off the boil, this keeps plowing ahead … the US Portfolio Strategy basket of US dividend growth stocks:
9. from GS Investment Management. executive summary: it’s very rare for US equities to have a down year in the absence a recession (link):
Source: Goldman Sachs
