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Selling the Rumor- 17Nov, 2022

In a slurry of news and Fedspeak, markets are selling off into support near last month’s levels. The folks at Tier1 Alpha are suggesting that the flow downward might be very sharp today and tomorrow so we shall be watching carefully into the levels. ONCE we hit key levels, flow will reverse to the upside but I would suggest choosing two time frames and moving in that direction today. For now as the news comes in, there is continued selling and no bouncing. Which could easily catch fire into sharp downward trending. THESE MARKETS ARE HARD – everyone of us that has been in the business for decades are affirming the difficulty of consistently anticipating flow. #StayFrosty

Today’s levels in the ES_F are 3900 and 3925 to watch as support and 3955 to 3975 as resistance. Yesterday, this was a post on Twitter. There were a lot of puts but I am not seeing the translation into the open interest today. My suspicion is likely that we are selling the rumor and buying the news.

Bond markets are showing a move into the higher for longer – and into a long pause.

Levels to watch – pullbacks are buying zones in the near term tactical motion

The lone holdout here is CL – in a very negative formation and we could slip right back into the 70’s

From Tier1 Alpha

T1 Alpha Sit-Rep: Thursday, November 17th
It almost feels quaint to point out the impending option expiry in a world of 0dte options, but as we approach the monthly expiry the gamma content of these options also begins to rise. We can see this in the steepening slope of our gamma exposure.  While we are modestly in negative gamma, the steepness of the slope between 3800 and 4100 suggests the potential for acceleration to the downside while upside moves are likely to be more restrained.

Today the key information we’ll receive on the macro front is more news on housing and jobless claims. Yesterday’s housing survey broadly matched the decline we’ve seen in homebuilding equities. Perhaps there is modestly more weakness ahead when we compare the S&P1500 homebuilding index to homebuilder sentiment, but there’s no smoking gun here (as there might be in sectors like Energy) unless sentiment continues to deteriorate.
On the jobless claim front, you’re likely familiar with our arguments. Initial jobless claims have been broadly trending higher since March, however we have not yet begun to see a meaningful acceleration higher.  Any significant move upwards is likely to begin the transition to “recession” rather than “Fed.”
Gamma Exposure:
The obvious barrier at 4000 is beginning to narrow into a corridor that roughly matches our broader PV and Gamma Bands. Between 3800 and 4000 is basically a consolidation zone. Post-November expiry, the resetting of option positions is likely to power us modestly higher.
However, we’re beginning to develop the tools that allow us to make a more informed statement around the very short option expiries.  The below chart helps to illustrate the scale of the challenge.  Yesterday, 0dte option volume absolutely dominated.
The byproduct of the growth in 0dte expiry volume is beginning to rob the validity of the signal we see at the 30 day VIX. It’s not just relative volumes. We are seeing absolute transaction activity at this tenor deteriorate markedly. In simple terms, beware false signals from the VIX.
Gamma & PV Bands:
SPX is in further consolidation around the 4000 strikes as our bands continue to trend higher. In particular, we’re watching our lower range at 3867, which suggests the near-term downside risks are improving by the day. Nonetheless, with limited event risk this week and a tight spread of only 4.3%, chances are we’re going nowhere fast, and the sideways trend will continue into OpEx. 
As broader gamma levels improve, our bands are contracting back near their average spreads and neutral risk/reward. This is in contrast to yesterday’s more extreme setup, where a majority of the mega caps were still holding the top of our ranges from last week’s rally. Consumer staples and Utilities are most favorable to the bulls, although the downside risk is limited by the short distance to the lower band.
Small caps are the most neutral of the major indexes we track, which is largely thanks to the upward momentum of our ranges rather than deteriorating prices. With our Gamma bands, in particular, you can see the range compression in action as the topside band is starting to slope downward while the lower band continues to trend higher. 
S&P 500 Market Breadth:
Although the markets were down -0.83% yesterday, the distribution of returns was fairly neutral, with only 67% of the index declining into the close. With that, SPX traded within a tight range of 0.72%, locking in the lowest intra-day spread in over two weeks. We can point to many metrics contributing to a lack of volatility this week, but lower index correlation takes center stage for our breadth models. 
Although it is still historically high, component correlations have been less extreme recently, increasing diversification benefits investors receive for holding indexes. Ultimately, this makes markets less fragile as advancing stocks match declining stocks. As correlations drop, we will hopefully see fewer one-sided markets and return to healthier distributions. 
Our CTA-inspired breadth model continues to show improving conditions under the surface, as over 57% of the index has their 10-day moving average trading above its 100-day MA. These are popular moving averages in many trend-following strategies because it allows for early signals while still filtering out some of the intra-day noise. Traditionally, CTA allocates into multiple asset classes rather than single stocks, but this can act as a strong proxy for equity allocations. 
Vol Control Implied Rebalancing:
Realized vol was again mostly unchanged yesterday, which led to limited action from our vol control model. Any buying or selling that may have taken place was either from new inflows into the funds or some “catch-up” rebalancing from earlier in the week. In both cases, the tape likely ate up these flows without any impact on the broader market.
Similar to yesterday, we expected muted flows between -0.5 and +1.5%, but the real action will start back up this Friday, as we lose the 2.4% gain from back on October 21st.
As a reminder, volatility targeting remains a popular strategy in the insurance space for products like variable annuities and term life insurance. As realized volatility goes up, these funds will mechanically sell equities, and when rVol declines, they get the signal to add back some risk exposure to their portfolios. Although the exact amount is highly dynamic, we estimate these funds control around $250-$350 billion AUM. 
Bonus Chart:
Today’s bonus chart speaks for itself. The 10-year treasury vs. 3-month treasury yield curve inverted to new cycle lows, matching the inversion we experienced leading up to the Global Financial Crises of 2008. After last week’s CPI report, the market effectively priced in a “rate cut.” We are not saying the Fed is cutting or pivoting anytime soon; the market traded like a rate cut for 24 hours. While dramatic, the rise was orderly; even on a beta-adjusted basis, high beta outperformed lower beta equities.
The dust has settled; what’s left is the 10-year vs. 2-year yield curve inverted to 66 basis points—eclipsing the inversion seen before the Dotcom bubble of 2000, the GFC in 2008, and the recession following the Gulf war in 1990. The only precursor is the extremes reached under Paul Volcker when he abandoned targeting interest rates entirely, switching to fighting inflation by attempting to hold monetary aggregates constant. While the monetarists at the time argued this would not lead to a recession, in the simplest of terms, “THEY WERE WRONG.”

An inverted yield curve has predicted the last seven recessions. Unfortunately, this time is no different. It’s our belief this bear market will stretch out for the next few quarters; we will update you every step of the way as the data unfolds.