1/ Let's take a break ☕️

In this thread, I'll help you understand fractional reserve banking.

You'll learn about:
• The biggest money creators in the economy
• How your bank balance is an illusion
• What banks do with your money
• Why we get liquidity and solvency crises 2/ We live in a debt-based economic system.

There is over $100 trillion of debt in the United States supported by just (!) $21 trillion of dollars.

There is not enough money to pay back all that debt!

If you're wondering how that is even possible - you are not alone.

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It's a self-paced online course that explores how financial markets work through stories, examples, charts and infographics, giving you enough context to make sure "it clicks."

Quick thread on what's inside each module 🧵👇 The Financial Industry

• The difference between capital and financial markets.
• What does it mean, when someone works in DCM?
• Shareholders want to get diluted?
• The eternal battle: buy side vs sell side.
• You know what market makes do!
• But wtf investment banks do?

Banking problem is not due to the spread between deposit accounts and money market funds, even though it's historically high.

Nor is it due to deposits running from banks into MMFs.

The issue is that funds leave the banking system because of what MMFs do with that capital.

1/ WSJ reports that more than 40% of MMF assets are invested into Fed's reverse repo facility (RRP).

If capital ends with the Fed, it is dead - it has left the economy and the banking system.

Unlike a typical commercial bank, the Fed doesn't need to invest to offer a 4% return

2/

The world runs on dollars.

It's not going away anytime soon - it's too ingrained into the world economy.

9 quick reasons for why it's difficult to replace the dollar despite what the FinTwit is telling you

🧵👇 #1 - In dollar we trust:

In fiat currency system, it's all about trust.

Trust that your currency has value.

Trust that it will be widely accepted.

Trust that the government will do the right thing to prevent the loss of value.

Bank: Hey! Fed, help us!!!

Fed: Yo, what's up?

Bank: We need some cash, quick!

Fed: Hey, calm the fck down... What's the problem? Bank: You told us in 2021 rates will be zero until like forever! So we loaded up on some crap mortgage bonds that pay peanuts.

Fed: Lol!

Bank: Don't fcking lol us! You hiked rates by 5% - all of our bond portfolio is deep underwater. Nobody wants that crap paying 1%!

Right now, the spread between the Fed funds rate vs 2-year Treasury yield is the highest since 2008.

What does it mean?

Usually, when the 2-year rate falls below Fed funds, it's an indication that the Fed will cut rates soon.

To see why, think about this 👇 Say you want to invest over the next two years. What would you choose?

1. Invest in a 2-year bond and get paid 3.9% p.a.

2. Invest into a daily Fed funds rate (5% atm) and roll the investment every day at whatever the Fed funds rate is at the time.

Funny how before 2008, currency in circulation was the Fed's biggest liability.

There was no TGA at the Fed, no RRP facility and reserves were little and paid no interest.

Simpler times. Following 2008, the Fed changed how it conducted monetary policy - it started paying interest on reserves and later launched reverse repo operations.

In a zero-rate environment, neither of these were expensive to service.

Alright, so with banking crisis fixed (goodbye Credit Suisse) let's come back to business as usual and check how the Fed is succeeding on the inflation front.

Will the Fed consider Elon's desperate request for a 50bp cut tomorrow or will they tighten further?

A few thoughts👇🧵 First of all, kudos to chair Powell.

The market so far underestimated him and his determination to "get the job done".

Over the past year, market expectations were more dovish than the Fed's guidance - traders expected rate cuts sooner, a terminal rate lower etc...

1/ So what can we expect from Santa this year? 🎅

How likely is it for Santa rally to occur and is it more likely if SPX had a positive or a negative year?

Below are a few observations on the Santa rally (or lack thereof) 👇 2/ First, let's define the Santa rally period as starting on the 3rd Friday of December and lasting into the end of the month.

This way we're capturing that last week in December + a few days.

The chart above shows the SPX returns for that period each year starting from 1980.

1/ Not your usual move in the VIX yesterday, ahead of the CPI & FOMC this week.

Vol was massively bid across the board, despite SPX gaining +1.43%.

Over the last 4 years, for a positive move in SPX, there was only one day when VIX gained more than yesterday (in March 2020)! 2/ Fixed-strike vols were substantially higher yesterday, across calls and puts (maybe with a slight bias towards puts).

Even more so, on the short end of the curve.

Below shows the gains in vol points across strikes and maturities between Friday and yesterday's close:

Next week marks the so-called triple-witching when SPX, SPY and ES options all expire.

Around $2.5T of options are set to expire next Friday, and like other December expirations, it will be the largest this year.

So what does it mean for the markets and the Santa rally?🎄🧵

1/ This expiration is large, however, for a December it's going to be fairly average, with 5.8 million SPX contracts expiring on the 16th.

The largest expiration over the last 10 years was December 2012 with 7.5 million contracts.

2/

1/ So what happens if we can control the AI (big if) and use it to our benefit?

I don't see how this won't result in some sort of singularity where humans and AI will blend into the same single entity.

We all become one.

The logic is simple 👇🧵 2/ In psychology, there is a nature vs nurture debate: what is it that makes us what we are?

Is it our biology (nature) that dictates our choices and behaviour?

Or is it our experiences and environment (nurture) that shape who we are and how we behave?

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1/ For those of you wondering - why is the skew flat, and how can vol be supplied in this market?

I recently read a great piece by @MrBlonde_macro (a must-follow, btw) where he recommends the below options structure to hedge a potential decline.

Does it look familiar? 🧵👇 2/ Yes, it's a "zero-cost" collar! (i.e. what $JHQEX fund implements)

We're buying a near-the-money put to hedge the exposure, but making it cheaper by selling an OTM call, and an OTM put.

Such a strategy fits well with the current bearish sentiment.

I was wrong.

I rushed this thread too quickly and failed to recognize a few important points that invalidate my discussion.

Just for clarity, I'd like to address them here so there's no confusion.

https://twitter.com/perfiliev/status/1537459638282731525

The idea was to explore if there's an upper bound on interest rates from the fiscal point of view and what happens when it's reached.

Yes, rising interest rates will raise the debt burden and result in more debt issuance to cover increased interest payments and fund a deficit.

1/ Skew has been flattish for some time this year, despite a decline.

Since the year started, the sentiment was bearish and market participants were overly hedged.

As the market declined - implied vol went up, but it still underperformed, given the magnitude of the moves 🧵

https://twitter.com/jam_croissant/status/1537664167615905794

2/ Positioning and underperformance resulted in a suppression of vol due to:
• Put monetization - the market was closing or rolling hedges.
• Selling vol to take advantage of higher absolute vol levels.
• Just not buying puts on down moves, because everyone's already hedged.

1/ US Fiscal Budget: $7T

Tax Revenues: $4T

US Debt: $30.5T

At around 1.2% UST rate in 2021, interest payments were $350 bln/year

At around 3.4% in 2022, interest payments should be $1T/year

At what point will higher rates cause a problem?

Here is what happens at 13% 🧵👇 2/ At 13% rates (still below 1980s), DEBT SERVICING ONLY will equal to the TOTAL 2021 US tax revenues!

What if tax revenues fall due to a recession?

In 2009 they were only $2.65T (infl. adj.), which fully covers just an 8% interest payment on the current debt amount.

1/ You know what's absolutely mind-blowing?

The Russian ruble is stronger than before the war and the strongest since 2018!

Wasn't it supposed to crash and burn after all the sanctions?

Something peculiar is happening with the Russian economy and its currency atm. 2/ A strong currency is usually associated with a strong economy.

FX theory suggests that countries that export more than they import, see their currency appreciate as the local currency is bought to pay for exports.

Besides energy, Russia has never been a net exporting nation.

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Fixed Income market rarely gets the attention it deserves - often it's all about crypto and stonks.

Yet, understanding this market will significantly help you form a fundamental macro picture that will put you miles ahead of the regular retail traders.

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• Real/nominal interest rates
• Government and corporate bonds
• Corporate spreads and their impact
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• Duration and convexity

The Fed REALLY doesn't want to raise rates. Nobody wants to be the bad guy.

They spent all of last year hoping inflation goes away by itself, so they wouldn't have to make this difficult decision.

They wanted to avoid tightening at all costs and waited till the last minute

1/4 And now they're discussing front-loading 75bp hikes.

Why? Where is the urgency now?

Did the economy make a substantial leap forward this year that it can handle such an aggressive tightening cycle?

2/4