1/ We've had a few questions come in on "implied correlation" and how that influences our broader risk perception. 

In simple terms, implied correlation is the OUTPUT from the relationship between index volatility and the volatility of each index component. 🧵 2/ Index volatility can be reverse-engineered from the weighted sum of single stock volatility, but it is ALSO a freely-traded product in its own right. As a result, implied correlation is more similar to a "basis" trade.

1/ With Jackson Hole now in focus, the fears of an overdone bond market rally chilled bond investor outlooks. Markets moved from pricing four rate cuts by Christmas to 3.9, an implied rate level of 4.4%. Remember that last December, the implied rate was 3.75% for the same date. 2/ In clockwork fashion, Europe has seen its implied December rate rise from 2.26% to 3% over the same period as Central Banks around the world have continued to manage interest rate policy with an eye towards currency stability (BOJ excepted) rather than economic performance.

1/ An Important Thread On Volatility 🧵

Two days after the largest single-day intraday increase in $VIX in history, we had one of the biggest vol declines in history. Predictably, $SPX rallied.

But let's be clear, this event has likely changed the calculus on many strategies. 2/ Actively managed, and thoughtfully hedged short-vol products performed admirably. But many high performing strategies in an era of low vol sensitivity simply "blew up" (technical term). I'm looking at you, Dispersion.

1/ Looking at implied correlation, the 10 delta put (crash put) is still barely pricing any correlation in the $SPX, again somewhat odd in the context of 80% of the $SPX moving in the same direction yesterday. 2/ As a reminder, implied correlation can be thought of as the "discount" in $SPX volatility for the diversification benefit of the index. Yesterday's realized diversification benefit was low, but the market views this as a temporary condition.

1/ The current upward trends of the $VIX and $SPX echo the dynamics of the Taper Tantrum, an event set into motion in 2013 by Ben Bernanke's challenge to the established "lower for forever" outlook in rate markets. 2/ In the space of a month, risk-free rates rose by 100bps AND credit spreads widened by 100bps, leaving very little imprint on the "safe" $SPX, but causing moderate chaos in fixed income markets.

1/ It seems fitting that the final course of business for 2023 is the roll of the JPMorgan "collar trade" tied to their popular hedged equity product, $JEHQX, a $17B AUM behemoth in the derivatives space. 🧵 2/ The fact that we are regularly describing their positions should be a bit of a warning sign -- there's only so much notional size that can be deployed in simple strategies.

1/ Bear market rallies are notoriously violent and abrupt. And last week was among the most violent and abrupt of them all. While implied vol cratered over the week, and betrayed zero interest in hedging for the weekend, the price behavior left us searching for analogs. 2/ One of the more interesting charts that came out of our weekend work was the behavior of skew for the $NDX.

1/ Navigating Negative Gamma: 🧵

Dealers remain excessively short-gamma with around $1.7 billion to hedge per index point. This level puts us back near the max amount of negative Gamma we've seen this year and close to record levels since 2018. 2/ While that might seem scary, remember that around half of this Gamma is tied to weekly options, which are being hedged with further out-of-the-money contracts rather than hitting the futures market.

These hedging flows have contributed to the massive jump in 0dte volumes.

1/ The vol surface carries an interesting message with a sharp rise in implied vol into the end of September.

With nothing looming on the economic calendar, what gives?

This is the return of the JP Morgan Hedged Equity put.
$JEHQX 2/ On a quarterly basis, a family of JP Morgan mutual funds must restrike a "sell call, buy put spread" structure. This is a highly visible trade also know as the JPM collar.

1/ "When the USA sneezes, the rest of the world catches a cold."

A short 🧵on the US dollar. $DXY

Within the details of last week's Kansas City Fed surveys, we found it interesting that new orders remain negative. 2/ The trailing 12m average of new orders is now on par with the end of the GFC and there is an inevitable level of restocking that we should expect to eventually lead to recovery in this series. The continued weakness is likely increasingly influenced by growing USD strength.

1/ Using the Fed's JOLTs data, we have seen 1.5M job openings disappear since it peaked in March '22.

To put this in context, Job Openings declined by 1.8M over the Global Financial Crisis when unemployment spiked from 4.4% to 10%.

This time though, unemployment is unchanged. 2/ From our model-based view, this failure to raise unemployment has been the key factor keeping passive inflows into the equity markets sustained.

1/ A quick update on volatility. 🧵

The low vol parade continues and with the entire front curve of the vol surface totally flat and below 13, it's remarkably hard to hold long vol positions for any period of time. $VIX $SPX 2/ The carry into realized is not so much the problem (we are pricing and realizing 11-13%) which makes it easy for dealers (who continuously delta hedge) to carry these positions, it's the roll down in the $VIX futures curve that is the killer.

1/ The past two days have been broadly characterized as a value rally or a broadening of the market.

Unfortunately, nothing could be further from the truth.

No, really. 🧵

$NDX $RUT $SPX 2/ What you just experienced is an unwind -- the selling of popular longs and unwind of popular shorts ahead of "events."

What events? (Insert Narrative Here )

It doesn't really matter.

1/ Are hedge funds massively net short? Lets take a closer look. 🧵 $SPX

*Spoiler Alert* There is no big hedge fund short. 2/ As noted by several sell-side shops, we saw meaningful upticks in S&P futures open interest as prices rose, suggesting a combination of FOMO from market participants caught offside and a growing narrative that hedge funds are "massively net short!" and must race to cover.

1/ We often highlight correlation within indices, but one of the key stories is the increasingly NEGATIVE correlation between bond yields and equities. This relationship flips when thinking in bond PRICE terms. 2/ This mechanically means a portfolio of bonds & equities, the proverbial 60/40, has lower risk as the asset moves offset each other. All else equal, this allows more leverage to be used in portfolios AND that bonds function as a positive carry hedge to equities.

1/ Over the past half century, the introduction of the index fund has likely been the most profound change to financial markets. 2/ First launched in the early 1970s (by Wells Fargo on the institutional side and Vanguard on the retail side), they grew slowly to roughly 3% total market share by 1990. Today, the best estimates for passive penetration sit well over 40%.

1/ THREAD:

What are the odds of a US default?

One way to think of the problem is to look at US equity markets. 2/ Despite dire warnings from major financial institutions, equity markets are broadly whistling Dixie with the VIX sub-17 and short-dated VIX being pulled down by the low realized volatility. In other words, no real chance.

Why Unemployment Data May Not Be Telling the Whole Story (Thread):

1/ The last refuge of the "What recession?" snarks lies in the "non-response" from unemployment claims which have proven remarkably stable for 2022: 2/ Unfortunately, yet again we find "errors" in BLS methodology that are failing to capture the full story. Claims are a function of two components -- a claim "rate" (claims per eligible employee) and the number of employees eligible. The excitement is in the latter for now