Back in June, Nomura's head of cross-asset strategy, Charlie McElligott, recommended two tactical trades: one has worked, the other has not.
One was a "structural shift" call according to which we were transitioning into the final “Financial Conditions Tightening Tantrum” phase 2 of a “Two Speed Year” thesis, and even included the “Tantrum” call at the end of October. However, his tactically-bullish SPX 1 to 3 month view in large-part based upon belief that rates would resume their selloff after the expected “tantrum” (i.e. NOW) has been, in his words, "hot-garbage" — especially the part where he said cyclicals could rally over defensives even if Growth Tech/Comms sold-off.
McElligott concedes as much in his latest morning note, coming hot on the heels of the next “risk-off” down-trade as former equities leadership (and massively-crowded “Growth Longs”) in Tech/E-commerce finally “crack” on earnings disappointments (AMZN and GOOGL) "and crunches both Equities investor performance- and psyche- further, with Spooz back to Wednesday’s lows."
As a result of the latest tech-wreck, the macro “gross-down” gaining steam resulting into two specific trades:
- Havens USTs / Gold are again rallying, against positioning that has seen them as MONSTER shorts from the leveraged community
- Conversely, former / recent legacy macro “Max Longs” in U.S. Equities and Crude are seeing more capitulatory selling
So what happens next?
According to McElligott, next week is “make or break” on the rest of the year SPX “rally” trade, "especially after what should be today’s potential CAPITULATION in Equities “Growth”—positioning has been RINSED; majority of the buyback resumes; seasonality and mid-term “bullish” analogs “kick-in”; and VIX curve inversion “bull signal” should GO all against more CRITICAL data in the form of CPI to get the positive growth-and inflation- related move higher in yields resuming."
That said, if equities are unable to rally over the next week, the Nomura strategist expects that a "retest of the year lows (2550) is an inevitability as late-comers further capitulate" for two reasons:
- The “80th to 90th %Ile “Gross Exposure Levels” for both Equities Long-Short- and Mutual- Funds are further de-risked by mechanical VaR / risk-management “book down” behavior
- At same time, we would move ever-close to the next wave of Systematic rules-based deleveraging as well with stock momentum collapsing—2631 is the next CTA “sell level” from here to go down to just “14% Long”; as of TODAY, a move and close below 2577 would see the CTA Trend position flip to outright “-100% Max Short”
Whether or not this happens will ultimately depend on whether the market's Macro "big picture" assessment changes. Here are some of McElligott's latest takes on where that stands currently:
- The U.S. short-term Rates market over the course of the past two weeks has again suddenly priced-in anywhere from a “Fed Pause” or even an outright “End to the Hiking Cycle” in 2019 / “Beginning of Easing Cycle” in 2020, while U.S. Equities have even more “jarringly” priced-in a “Negative Growth Shock” if not an explicit “Recession”
- The sequencing of catalysts for this reversal: the powerful “bearish rates” movement back at the start of Sep was the big AHE beat; then the powerful uptick in “hawkish” Fed rhetoric—especially with regard to the “neutral rate”; then it was the mega standard deviation +++ beats in ADP and ISM Non-Manufacturing at the start of Oct (“overheating”); finally it was Fed Chair Powell’s commentary that we would likely be running well-above “restrictive” that jarred the world into this “POLICY ERROR” scare
- Same update, different day: the 2019 Eurodollar calendar spread is now only pricing in 40bps of Fed hikes next year (down from an implied 60bps of hikes just 3 weeks ago, and all vs the Fed’s dots at 75bps); the 2020 Eurodollar calendar spread remains inverted, thus implying 2020 Fed “easing” on the margin
- Now further-complicating matters are last night’s disappointments from the last of the U.S. Equities “Generals,” as e-comm darlings AMZN and GOOGL disappointed in earnings against increased spending; this further throws into question the multi-year legacy consensual positioning of “Max Long Secular Growth vs Short Cyclical Growth,” thus with the potential to drive a new leg of Equities portfolio de-risking.