Nomura Has "A Word Of Warning For The Coming Days"

Earlier this week, Nomura's Charlie McElligott made an explicit warning that the market is entering a potentially turbulent period, one where even as broader equity markets declined, selling triggers for the trend-following, CTA community were rising, and once the two levels crossed, stocks could see an accelerated move to the downside as CTAs, most of whom are currently "Max Long" US equities, started selling again. This is precisely what happened with the Russell 2000 yesterday, resulting in a violent small-cap selloff.

For those who missed it, Charlie lays it out again this morning, noting that due to the extremely over-weighted impact of the 1Y period in our Nomura QIS CTA Trend model, "the powerful post 2/5/18 rally into this time period one year ago would “mechanically” drive currently “Max Long” US Equities futures “sell-trigger” levels HIGHER across the beginning of March", and thus even just a smallish pullback in Equities could then see the multi-month “Max Long” U.S. Equities position “at risk of seeing this very leveraged (and “unemotionally” rules-based) strategy turning OUTRIGHT SELLERS, as these breakpoints move higher / closer to ATM.

Then on Tuesday, as we highlighted at the time, McElligott showed the model’s projected forward drop-off data across US Equities futures, where he specifically noted the imminent nature of the CTA position in Russell 2000 already technically below the “SELL PIVOT” level—so specifically if “day 0” was Tuesday, “day 1”—yesterday—only needed to cross through that 1563 level to see the prior “Max Long” inflect to an outright “Short” position again.

Indeed, as shown below, just a simple 50bps move lower in the Russell as the Nomura strategist forecast on Tuesday through 1,563 on Wednesday/Thursday, would have been sufficient to push the Russell 2000 from "Max Long" to "Short" again.

Whether or not this was the catalyst is unclear, but yesterday the Russell 2000 tumbled just as McElligott said it would, as Systematic Trend/ CTAs/Momentum models quite-evidently again turned "short" (-80% position now) in Russell 2000 futures:

So having been proven correct on the first key inflection point which clobbered small caps on Wednesday, McElligott has "a word of warning for the coming-days", to wit:

despite the clearly weakening 1Y signal in Russell (which per our model sees the CTA Trend universe as having pivoted “short”), we still sit near “re-leveraging” levels too—so the signal will be particularly noisy and at risk of “re-flipping”—especially with the 1Y dropoff dates moving our triggers around to such an extent, as I’ve been pointing out for two weeks now.  

With this warning in mind, however, Nomura adds that yesterday’s price-action in driving Russell lower will feed into continually weaker signal, and at a minimum McElligott would expect even “slower” models which have not yet pivoted outright “short” to, at the very least, be reducing legacy longs in the coming days, thus, becoming indiscriminate sellers regardless of what the RUT does in the coming days.

Systematic traders aside, McElligott also observes that his new short interest analysis is showing that Hedge Funds are re-engaging in shorting across single-name and ETF again after being squeezed-out in January in early Feb—with the weekly data for the second week in Feb showing that “Net Shorts” again increased by $42.5B (single-name +$29.3B, Futures +$10.9B, ETFs +$2.3B).  Yet even after this recent gross-up in “shorts,” the overall short-base stands at just 15th %ile in singles and 19th %ile in ETFs, meaning many more shorts are likely to pile up at current levels should CTAs drag markets lower.  

Separately, the market also saw systematic vol sellers (put sellers, in particular) closing down positions / covering in good size this week, which has then temporarily removed the boot from the throat of the VIX complex, with the entire term structure “UP.”


So to summarize yesterday's acute small-cap weakness, according to McElligott it was likely a crescendo of overlapping dynamics:

  • CTA’s VWAP selling after triggering (early, just after the Cash “open”) in Russell…
  • Which then saw willingness from Asset Managers to “lock-in” profits and sell futures...
  • All while Leveraged funds again were seeing positive PNL from their shorts, which were again pressed (single-name baskets “Most Shorted” -2.1%, “1Y Momentum Shorts” -2.1%, “High Short Interest” -2.0%, “Crowded Shorts” -2.0%)…
  • And as VIX term structure leaping-higher across the curve, with systematic vol sellers covering / closing some positions (although STILL NOT YET seeing the curve invert—which would be a much larger “impulse” as roll-down models would move outright “short to long”)

So what's next? Here is McElligott, who has been correct so far in the current "Ides of March" sequencing, laying out the next steps:

  • The good news for “longs” is this: both S&P- and Nasdaq positioning remains “+100% Max Long” currently with still “strong” price- and vol- signals, and above “sell triggers” in this very near-term.
  • Here is the look for S&P Futures forward-looking “deleveraging / SELL TRIGGERS” as per our “signal drop-off” analysis—currently “+100% Max Long” with spot at 2770; small selling under 2730 to get to “+80% Long,” with a flip to outright “SHORT” below 2718 all levels held constant from today.


  • This is important because a breach of the “first” sell-triggers would of course induce deleveraging, but not outright “short”—instead, just reducing to “+80% Long”…for now.
  • Here is Nasdaq 100—currently VERY COMFORTABLY ABOVE ‘sell triggers’ and “+100% Max Long” with spot at 7096 last; small selling under 7004 to get to “+80 Long,” with a flip to outright “SHORT” below 6895 to get “-100% Max Short”—while “sell triggers” do indeed move higher though over course of next week and a half:


What is important, as McElligott explained in detail on Tuesday, is that these pivot levels will continue to be “mechanically” pulled-higher (nearer to ‘spot’) over the next few weeks as a function of the large rally experienced a year ago at this time.  

So, looking back at the SPX signal drop-off table above, as the “pivot level” jumps higher from today (2730) to tomorrow (2763—which is effectively “ATM”)…then back ‘down’ ~2740-2750 before the big move to 2775 out a week and a half now and even higher from there on out.

Thus, if / when this pullback / correction continues to metastasize in US stocks, we could very easily approach these systematic-trend deleveraging levels in more “crowded” risk-bellwethers SPX and NDX—ESPECIALLY with the potential additional catalysts for “supply / demand” changes mid-month as previously identified—and thus sit at risk of a larger impulse move “lower”:

  • The March Quarterly / Quad Witch Options Expiration seasonality (trade UP into, trade DOWN out of--particularly given the “extreme” Delta %iles and meaningful Gamma in the market)




One final risk factor is the loss of the biggest driver of demand for US Equities—as US Corporates will begin to re-enter their “buyback blackouts” at the exact same time; McElligott calculates that 75% of S&P 500 companies will be in “blackout” by 3/19/19:

Finally, for all those tracking key break-points across asset class, here are the "key" cross-asset/macro levels:

  • S&P 500, currently 100% long, selling under 2729.63 to get to 80% , more selling under 2718.23 to get to -100% , flip to short under 2718.51, max short under 2718.23
  • NASDAQ 100, currently 100% long, selling under 7004.09 to get to 80% , more selling under 6895.44 to get to -100% , flip to short under 6896.15, max short under 6895.44
  • Russell 2000, currently -79% short, more selling under 1517.21 to get to -90% , max short under 1517.05, buying over 1563.14 to get to 100% , more buying over 1562.98 to get to 10% , flip to long over 1562.98, max long over 1562.98
  • Euro Stoxx 50, currently 100% long, selling under 3249.26 to get to -80% , more selling under 3203.84 to get to -100% , flip to short under 3249.26, max short under 3203.84
  • Nikkei 225, currently 100% long, selling under 20778.79 to get to 80% , more selling under 20540.39 to get to -100% , flip to short under 20542.55, max short under 20540.39
  • GBP_10Y, currently 81% long, more buying over 124.04 to get to 91% , max long over 124.05, selling under 123.59 to get to 71% , more selling under 123.04 to get to 37% , flip to short under 121.89, max short under 121.89
  • JPY_10Y, currently 60% long, more buying over 152.69 to get to 71% , max long over 152.91, selling under 151.61 to get to 37% , more selling under 150.43 to get to -43% , flip to short under 150.43, max short under 150.43
  • EUR_10Y, currently 81% long, more buying over 166.51 to get to 91% , max long over 166.52, selling under 165.49 to get to 71% , more selling under 162.87 to get to 37% , flip to short under 161.33, max short under 161.33
  • EURUSD, currently -100% short, buying over 1.1424 to get to -49% , more buying over 1.2568 to get to 50% , flip to long over 1.1426, max long over 1.2568
  • USDJPY, currently 0% short, more buying over 112.4587 to get to 49% , flip to long over 112.4587, max long over 112.4698, selling under 103.4503 to get to -50% , more selling under 103.4391 to get to -100% , max short under 103.4391
  • GBPUSD, currently 0% long, more selling under 1.2773 to get to -49% , flip to short under 1.2773, max short under 1.2771, buying over 1.3976 to get to 50% , more buying over 1.3978 to get to 100% , max long over 1.3978
  • AUDUSD, currently -100% short, buying over 0.7272 to get to -49% , more buying over 0.7743 to get to 50% , flip to long over 0.7273, max long over 0.7743
  • USDCNH, currently 0%, more buying over 6.8676 to get to 49% , flip to long over 6.8676, max long over 6.8683, selling under 6.4016 to get to -50% , more selling under 6.4009 to get to -100% , max short under 6.4009
  • WTI, currently 9% long, more selling under 54.33 to get to -17% , flip to short under 54.33, max short under 53.9, buying over 63.72 to get to 55% , more buying over 63.73 to get to 100% , max long over 63.73
  • Gold, currently -9% short, more buying over 1317.97 to get to 18% , flip to long over 1317.97, max long over 1352.34, selling under 1210.93 to get to -55% , more selling under 1210.8 to get to -100% , max short under 1210.8
  • Copper, currently 45% long, more selling under 6220.85 to get to 18% , flip to short under 6220.2, max short under 5878.81, buying over 6789.02 to get to 73% , more buying over 6789.67 to get to 100% , max long over 6789.67