Daily Brief | February 7, 2023
Daily commentary for U.S. broad market indices.
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Fundamental
In late December 2022, this letter unpacked the likelihood that concerns over inflation were overblown. Strength in markets would re-appear despite earnings deterioration.
“If the market sniffs out an inflation-driven pause or a pivot from the Fed, even before a drawdown in risk assets is seen, we may get a disinflation rally,” this letter quoted Andreas Steno Larsen explaining. Accordingly, when the Fed upped its benchmark rate by 25 basis points last week and chairman Jerome Powell appeared “not ‘overly combative,” traders turned ultra-optimistic and levered up.
Notwithstanding, the Damped Spring’s Andy Constan believes that pressures are set to remain strong. Traders are pricing higher rates for longer after some new data last week, and the flow of capital, out of capital markets (via quantitative tightening or QT), will be a strong headwind.
Fabian Wintersberger added that if central banks, indeed, are “more restrictive for longer to dampen the pressure of rising consumer prices, … [this] supports the thesis that stocks and bonds will have to fall … [leading] to a demand shift, back from financial markets into the real economy, … [and] the current consumer price disinflation is probably just an injury break before we see the real slowdown between inflation and central banks next year.” Consequently, the double-top inflation playbook appears intact, and volatility in financial markets is likely to persist.
Positioning
Late last week, this letter talked about data that pointed to weaker returns over a 5- to 10-day window. This was, in part, the result of short-dated options activity. After implied volatility (IVOL) compression helped catalyze a rally, SpotGamma, noted that traders’ open interest at slightly higher S&P 500 (INDEX: SPX) prices, and associated counterparty hedging, would likely result “in range suppression or pressure” as time passes and volatility falls. Why? Well, if a long call option’s probability of having value at expiration falls, the counterparty's risk falls as well and, so, they can sell some of their hedges. This is market pressure.
Anyways, SpotGamma added, yesterday, that “pressure surfaced just when the … data said it was most likely to surface. This appears coincidental, however … [as] the SPX drops began during the first round of [some] VIX [trades]. Some traders entered into 300,000 VIX March 24 and 26 strike calls. The selling accelerated into Monday when nearly 122,000 VIX June 30/40 call spreads fired off. Dealers who may be short VIX calls are likely hedged with VIX futures (or other long volatility hedges). This hedging is market pressure.”
If you’re playing for expansive moves, an attractive way to protect portfolios includes selling rich call verticals to finance put verticals with months left before expiration.
Technical
As of 7:00 AM ET, Tuesday’s regular session (9:30 AM - 4:00 PM ET), in the S&P 500, is likely to open in the middle part of a balanced overnight inventory, inside of the prior day’s range, suggesting a limited potential for immediate directional opportunity.
The S&P 500 pivot for today is $4,122.75.
Key levels to the upside include $4,136.75, $4,147.00, and $4,165.75.
Key levels to the downside include $4,100.25, $4,079.00, and $4,052.25.
Disclaimer: Click here to load the updated key levels via the web-based TradingView platform. New links are produced daily. Quoted levels likely hold barring an exogenous development.
Definitions
Volume Areas: Markets will build on areas of high-volume (HVNodes). Should the market trend for a period of time, this will be identified by a low-volume area (LVNodes). The LVNodes denote directional conviction and ought to offer support on any test.
If participants auction and find acceptance in an area of a prior LVNode, then future discovery ought to be volatile and quick as participants look to the nearest HVNodes for more favorable entry or exit.
POCs: Areas where two-sided trade was most prevalent in a prior day session. Participants will respond to future tests of value as they offer favorable entry and exit.
About
The author, Renato Leonard Capelj, works in finance and journalism.
Capelj spends the bulk of his time at Physik Invest, an entity through which he invests and publishes free daily analyses to thousands of subscribers. The analyses offer him and his subscribers a way to stay on the right side of the market. Separately, Capelj is an options analyst at SpotGamma and an accredited journalist.
Capelj’s past works include conversations with investor Kevin O’Leary, ARK Invest’s Catherine Wood, FTX’s Sam Bankman-Fried, Lithuania's Minister of Economy and Innovation Aušrinė Armonaitė, former Cisco chairman and CEO John Chambers, and persons at the Clinton Global Initiative.
Connect
Direct queries to renato@physikinvest.com or find Physik Invest on Twitter, LinkedIn, Facebook, and Instagram.
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Disclaimer
Do not construe this newsletter as advice. All content is for informational purposes.