Tag Archives: volatility

The Ten Commandments of Risk Management, Updated Edition

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During the heady days of 2013, I published a piece called the Ten Commandments of Risk Management.  As always, it was meant to entertain along with enlighten.  Now, five years later, I am putting the piece out in slightly modified and enhanced form.  I hope you don’t think this makes me a bad person.  If I remember correctly, after all, Moses himself received the tablets from God – not once but twice, so perhaps my readers will grant me a similar mulligan.

Much has changed since the original publication of this document, but more remains the same.  Most of The Commandments, are in fact, timeless.  But context, always context, changes with the very cells in our bodies.  So I think it’s time to take another look.

The Ten Commandments of Risk Management

The subject of risk management, while increasingly topical in the modern financial universe, is often abused through over-analysis, over-complication and hubris among purported experts.  As a longtime risk manager, I think the Number One goal of risk management as a professional discipline, is to take complex, content-rich concepts such as transactions and portfolios, and simplify them down – for the purpose of making clear-headed decisions.  Do I want to do this trade or not? Am I comfortable with the amount of money I could lose in my current portfolio, based upon available information? What changes can I make if I’m not comfortable?

These are the questions that “true” risk management seeks to answer, but too often, these simple objectives are obscured by the very human tendency to meet challenges with complexity versus simplicity, derive nuanced solutions, and, when this works, to pat our own backs in wonderment at the clever people we are.

Do you want to be the smartest guy in the room or the richest?  Most would choose the second option, and, while risk management can be of enormous assistance in achieving this objective, it is only one tool in the trading/portfolio management arsenal, and the simpler it is to use the better.

Trends towards simplification of objectives and ease of interpretation are beginning to work their way into the murky field of risk management, and the purpose of this piece is to provide you with some basic guidelines in a familiar form – The 10 Commandments – which, if you follow them, will give you a sustained edge over many market participants who routinely violate them.

It may or may not surprise you to learn that my 10 commandments, like the ones that came down from the biblical Mount Sinai, read as mostly blindingly simple rules of common sense.  Yet even the most sophisticated portfolio managers routinely abuse them.  However, this is also true of Moses’ tablets, as, even the most righteous among us will occasionally lie, covet our neighbor’s wife, or fail to honor our fathers and mothers.

So I offer the following set of simple rules, with the forewarning that, like biblical teachings, the enumerating of them is a much easier task than that of living by them.

Commandment I:  Establish/Understand Market Participation Objectives

In terms of sound risk management, forming a clear understanding of the forces driving your market participation is as good a place as any to start.  After all, if you don’t know why you’re trading or investing, you are placing extra burdens on yourself in terms of the already-difficult-enough-as-it-is challenge of actually making money in the markets.  Some of you are professional investors; other participants are in this game for more personal reasons.

Let’s start with this latter, more diverse group.  If you’re not paid professionally for your toil and sweat with research reports, lazy, know-nothing brokers and flashing screens, you should take a moment to determine what you’re hoping to accomplish by being in the markets at all.  Here, the answers might run the gamut – from very active market participants who actually trade their own capital for perpetual income generation, to those who dabble occasionally and hope for the best, to those who own stocks, bonds and commodities simply because they believe they are critical tools for wealth preservation and enhancement.

It’s best then to determine exactly what drives your own market participation, and setting objectives accordingly.  If trading is more than an avocation, and occupies significant portions of your time, then managing how you use this time is a tool to address one of the most binding constraints to performance success.  Alternatively, if you are a routine, occasional dabbler, then the constraints shift: from time, to market information and access to resources, and it behooves you to make sure these are best in class.  Finally, if you’re simply a passive investor, then your success is largely a function, at least on a relative basis, of the quality of your advisors.  Whichever category you call home, it is certainly in your interest to have identified it, as this will drive many actions and choices set forth in the remaining 9 commandments.

If you are a professional investor, a similar, but far from identical, exercise is in order.  Presumably, you’re working for some institution, and, while you can clearly identify a personal goal of making the highest return possible in the shortest period of time, and getting paid as much as possible, these objectives may not align with precision to those of the organization for which you work.

So it is absolutely in your interest to understand the investment mission of your employer.  But go deeper than that.  Understand how it gets paid, how it achieves growth and enterprise value, and this, in turn, may require a look-through to the types of clients that fund your institution, and an associated understanding of their investment goals and objectives.

You’d think these things are obvious, but in my experience, many market participants, both professional and amateur, fail to undertake this simple exercise, and, without doing so, almost certainly set themselves up for failure, or, at minimum, sub-optimal success.

As a last point regarding this new-age self-analysis, for both professional and personal investors, the objectives of the investment process may change over time, so my further advice is to go through this exercise, at minimum, once every couple of years.

Commandment II:  Establish an Investment Approach that is Consistent with Commandment I Outcomes

Once you’ve determined where you fit into the market mosaic, you can and should make a detailed study of the various roadmaps to success.  For full-time traders (professional or personal) this involves determining what markets in which you wish to participate, and what resources you need at hand to be at your best while navigating these markets.  Even for less active investors, a similar path is recommended.  You should, for your own benefit, determine what markets you will focus on – based upon what advice and information – and how much personal attention is required.

Virtually all investors should establish look-back methodologies for measuring their relative success, on a routine, periodic basis, with an eye towards understanding clearly what they did well, where they under-performed, and what steps they can take to learn from past experience, and achieve improvement in future cycles.

I’d like nothing better than to discuss this with you privately (it is, after all, a highly personal matter), so if the spirit moves, shout me a holler.

Commandment III:  Establish Financial Objectives and Constraints

No matter what your market orientation, you are likely constrained, in gravity-like fashion, by one unshakeable reality: there is a finite amount of money that you are able to lose and still remain in the game.  This will vary by the type of market participant you are or wish to be (in adherence with Commandment I), but even within any given participant class, it will shift and evolve along with market conditions, performance, the sources of your funding and other factors.

So it behooves every market participant to determine, periodically, how much money they can comfortably lose, and in order to do so rationally, this impels them to set return targets as well.  Except under very narrow circumstances, no clear-thinking market participant would set a maximum loss level, at, say, 25% if his or her target return was in the low single digits.  So, entering every period (and for many, most importantly at the beginning of each year), effective portfolio management implies a comprehensive analysis of the range of likely outcomes, which yields the simple, declarative outcome of identifying with clarity the variables in the following statement: “My objective is to generate a return of X, and am willing to lose up to Y to achieve this goal.”

The most visible objectives of this exercise are to create focused parameters for success and failure, but there are indirect benefits to be gained as well.  In my experience, it is impossible to derive an honestly formed estimate for X and/or Y without undertaking an analysis of general concepts such as market conditions and resources at your disposal, down to more granular details of what instruments you intend to trade/invest in, and why.  Trust me: you only stand to benefit from routinely performing this exercise, and, at various points, looking in the rearview mirror to see what went right, what went wrong, and why this was the case.

For professional investors, these “mission critical” parameters may be set by your capital providers and not by you personally, but sorry, Mr. Wall Street, this doesn’t let you off the hook; if anything, it places extra burdens on you with respect to Commandment III.  In a highly constructive work environment, you will have a say in these matters, and even if your return budget and loss limit is set at levels with which you fail to agree, you’ll be doing yourself a world of good by making your arguments on an informed basis.

Perhaps, if proven right with enough consistency, your bosses may eventually start listening to you, or you will find a professional home wise enough to take your input into their decision-making process.

Commandment IV:  Stick to Your Methodology

These commandments, at least the ones set forth thus far, are sequential and path-dependent in nature, and if you follow the course, by now you’ve figured out why you’re in the markets, developed a methodology consistent with this first commandment, and have parameterized your return objectives and maximum loss thresholds.

It’s now time to go get them out there, and it will serve you in good stead to operate by the precepts of Commandment II.  You may be a superstar at your investment approach, or you may simply be a legend in your own mind.  But one thing I’ve learned from experience is as follows: if you deviate substantially from your methodological disciplines, you stand almost no chance of succeeding in the markets.  Heck, it’s hard enough to succeed even when you are rigidly sticking to your approach.

This means keeping to a list of tradeable instruments with which you are comfortable, knowing the ranges of your investment sizes and holding periods, and, ideally, both having tools and self-awareness to know when you’ve gotten it wrong, as well as the discipline to act upon mistake identification – ideally by wiping the slate clean and starting over again.

If this happens, and you find yourself compelled to retrench, I implore, nay command you to stick to your knitting.  For the personal investors among you this means resisting the temptation to rush into some hot stock tip you heard about at the country club bar, or a complex structure that your broker/advisor is very keen to stick in your portfolio.  These transactions are indeed money-makers, but for others (e.g. your broker/advisor); not you.

The same dynamic applies to you fabulous pros.  Sell-side folks of every stripe will try to sell you on clever angles that seldom, in my experience, provide benefit to those to whom they are pitched.  So if you crawl down the rabbit hole, start climbing, and use the path of your descent, as it is the clearest way back towards high ground.

Commandment V:  Understand the Profitability Dynamics of Your Portfolio

The sum total of your trading and investing activities create something we risk geniuses refer to as a portfolio.  It contains, in most cases, a mix of financial instruments, and, in some instances, may include short bets and derivatives.

It is worth your while to understand what drives this aggregation of your market activity: what conditions will cause it to make money and what dynamics will be either dilutive to returns, or generate outright losses.  For both pros and amateurs, it behooves you to review these hypotheses with routine frequency.

A word, here, to most of the personal investors and a few of the professional ones as well: many of you have multiple accounts, often held at different financial institutions.  But your financial fortunes are tied to what happens to the totality of your holdings, so, in order to adhere to the 5th Commandment, it may be necessary to find a way to aggregate your holdings across investment accounts, possibly held at multiple financial institutions.

We are now half-way through the entire exercise, and can move from the left tablet to the right one.  Nothing too painful has happened to us yet, right? But fair warning, we’re about to enter the murkier ground where risk analytics cannot be entirely avoided.  I am confident, though, that you can handle this.

Commandment VI:  Understand the Volatility Dynamics of Your Portfolio

Each individual financial instrument that you own has its own unique volatility characteristics, which, to further cloud matters, will change over time and market conditions.  Your favorite Canadian Oil Exploration company or Bio-Tech concern is more volatile, and therefore, all things being equal, riskier, than, say, your money market holdings or your dividend yielding stakes in, say, Consolidated Edison.  You should understand these dynamics, using such tools as Beta and volatility (the standard deviation of returns).

Of course, the volatility of your portfolio will not be equal to the sum of its individual risks, but here I have good news: the portfolio as a whole will almost certainly be less risky than the sum of its parts – due to the impacts of diversification.  Individual instruments will not likely move in lock step with one another for extended periods, and this means that under most circumstances, when you are taking noticeable pain on individual positions, others will provide some relative comfort, and even more so if you add hedges or long/short balance to the mix.

In any event, there are tools available that enable all of you to measure the volatility of their portfolios as though they were single, individual instruments.  These are extremely useful – particularly in today’s environment, under which external events can change volatility profiles dramatically, and without notice.  To provide one recent example, after a positively sail on the somnolent, forgiving market seas of 2017, in February of ’18, the becalmed waters began to churn angrily.

If you held a static portfolio and didn’t do a single trade since the vol picked up, then it is likely that your volatility doubled, tripled or more — relative again to ’17.

These trends of instability of risk across market cycles are likely to continue well into the future, so, in order to manage in a clinical manner, the risks you are assuming, it is necessary to understand over dynamic investment cycles, the overall market risk profile, and its incremental impacts on your portfolio.

Commandment VII:  You Are Able to Risk More When You’re Up than When You’re Down

Though buried in the middle of the second tablet, Commandment VII is as important a rule as exists of the ten.  If you’re p/l is positive and rising, you are essentially playing with “house money,” and can take risks that are not wise to assume when the opposite condition exists.  However, I hasten to add that these concepts are asymmetric in nature.  Just because you happen to be making money doesn’t mean you should increase your risk-taking; being up is thus a necessary but not sufficient condition for opening up the throttle.  The other prerequisite is that you like the forward-looking opportunities you see on the horizon.  If you don’t, then either stand pat or take chips off the table, as no rational risk-taker should increase his or her bets if they don’t like the forward-looking feel of the markets.

Conversely, if you’re losing money, your viewpoints on the market become largely irrelevant to us risk managers, and we will encourage you to remove risks from your portfolio no matter how much money this may cost you in terms of future returns.  Here, we revert back to the third Commandment: the one where I have instructed you to set a maximum aggregate loss for your trading and investment.  The closer you get to this stop-out level, the less firepower you have, and, if you want to stay in the game, it really doesn’t matter how much you like the markets.  After a bad spell, you should reduce risk.  If you’re proactive about this, you can still nail your best ideas – albeit in smaller sizes.  But if you do the opposite – double down, and subsequently happen to be wrong, I suspect we won’t have much to talk about in the future.  The professionals among you may be looking for new lines of work, while personal investors might be too occupied with mundane matters such as how to pay the mortgage to devote much time to the markets.

I have some simple formulas we can share with you that will provide you with an adherence roadmap for Commandment VII.  In the meantime, I will conclude thoughts on the seventh with the following truism: the risk more when you’re up/less when you’re down thing works in all endeavors of chance.  It’ll perform just as well in Las Vegas as it does on Wall Street.  Trust me on this one.

Commandment VIII:  Set Targets for All Individual Positions/Themes and Stick to Them

Before buying or selling short a stock, bond or option, you should determine the price which you seek to achieve, the one on the negative side that will cause you to admit the folly of your ways and exit the position, and some idea of the timeframe over which you intend to hold these positions.  Keep a spreadsheet of these Objectives, Stops and Dates and update them frequently.  It will also do you a world of good to keep a close eye on positions that have reached or exceeded your positive and negative targets.  Here, you have two choices: either change your target, or exit the position.  There’s simply no reason to hang around in themes that have already played out, positively or negatively, according to your expectations.

Adhering to Commandment Eight may cause you, fair warning, to deviate from the long-standing, but in my view fallacious risk management platitude that you should sell your losers and let your winners ride.  Call it blasphemy if you will; I call it common sense.  More often than not, and particularly if you truly have an “edge” in your area of market focus, your risk-reducing activities should more productively be shaded towards getting out of positions that have already done their work for you, while holding on to losers that, if you’re right, will pay off in spades.

The best means of achieving risk reduction on a name-by-name basis, in my view, is to go through what I call the “Vince Lombardi/Gentlemen, this is a football” exercise.  Review each individual position, and forget whether they’ve made or lost you money in recent innings.  Pick the positions that you believe offer the best value at current prices, and discard the rest.

Empirically speaking, I promise you that this process will lead you to shed more of your winners than your losers.

Commandment IX:  Fear Not Options, Including Their Short Sale

Without getting into great detail, changing market conditions wreak havoc on options pricing, and these markets often give away some of the best opportunities you’re ever likely to see.  Moreover, if you buy into this, combined options positions, including bull spreads, bear spreads, straddles, strangles and butterflies, can, if properly timed, be had for a song.  I also believe strongly, particularly in high-volatility markets, in using covered write strategies, as a means of reducing exposure to individual names, and for yield enhancement purposes.

To further express risk management sacrilege in this otherwise holy document, I believe that those who believe that selling options is riskier than buying them are deeply misinformed.  Empirical evidence suggests that well over 90% of options expire worthless, so who’s making money/taking more risk: the buyers or the sellers? This is not to say that I countenance the unconstrained selling of premium; quite to the contrary.  My main philosophy with options is to seek to apply the basic strategy of buy low/sell high to this instrument class.  If options are cheap, buy them.  If they are expensive, sell them.  Quite often, you can find both conditions within the framework of an individual underlier, and, if you do, you can benefit from arbitrage opportunities that much of the market seems to routinely ignore.

Commandment X:  Obey the 10 Commandments 

I feel compelled to inform you that in the revised set of tablets, I was sorely tempted to move Number 10 up to Number 1.  One way or another, I think that adherence to the actual laws handed down from on high, are for our unilateral benefit. They represent the core precepts of righteous human behavior, and in the 3,500 years since their original, well, publication, no one, to the best of my knowledge, has ever even legitimately questioned them.  While observing to them with perfection is perhaps beyond the abilities of individual members of the human race, attempting to do so will do you a world of good, including in terms of portfolio returns.  Remember: our universe was created by the Lord, while markets are entirely the creation of Man.  When we seemingly needed it the most, He gave us the Law, as embodied in the Commandments.  Following them just might give you, divinely speaking, a little extra edge.

Similarly, following the Golden Rule will also do neither you, nor your portfolio, any harm.

In these troubled times, I can’t emphasize how strongly I feel about #10.  So stop lying, stealing, committing adultery, coveting your neighbor’s wife and taking the Lord’s Name in vain.  Some good will come of this, I promise you.

There’s a lot more to be said about all of the above, but we can only do so much with the written word, right?  If the spirit moves, contact me and we’ll talk.

Trust me my brothers and sisters, it’ll do you no harm.

TIMSHEL

Joining the Band

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Join The Band

Hey Lordy… (join the band, be good rascal…)

Hey join the band, be good rascal and join the band

Hey Lordy…

Join the band, be a good rascal and join the band

Oh huh oh ho ho ho

— Little Feat

Don’t you think the moment has come? To join the band, I mean? There are worse ways to spend your time, you know, and when Little Feat’s late and lightly lamented Lowell George asks, I believe we owe it to him to respond favorably – even four decades after the initial request.

So, even at this late date, I am inclined to take up Lowell’s invitation. However, one problem remains: which band should I join? It’s not as though I am flooded with offers; the plain truth is that I have had none. And believe me, this hurts, because these days I can really shred. In fact, I’d go so far as to say that I’d be a major asset to any ensemble fixated on the rolling decade between 1965 and 1974, and, in the right group (i.e. one that: a) narrowed its focus to 1968 through 1972; and b) let me do exactly what I wanted), I could be great.

But at my advanced age, I have learned that delusion is risky and even sometimes fatal, and this forces me to face the possibility that no rock and roll outfit will have me. However, there’s more than one kind of band to join, so I’ve chosen to take a different course, affiliating more assertively with that band of brothers and sisters that form the global financial blogosphere. It’s not as though I haven’t contributed to their catalogue; the consistent production of these weeklies, and subsequent posting to the web is, in itself a testament to my longstanding affiliation with the blog bros. But, my friends, like so many other matters, it comes down to a matter of degree. I’m going to be doing more with them, and whether I become a full-fledged member of the group, or, like Darryl Jones, who has ably managed the base lines for the Rolling Stones for a period longer than founder Bill Wyman but has never achieved full membership, linger as a side man, remains out of my hands.

Please know that I don’t take this step without due consideration. I am solemnly aware that, over the baker’s dozen years that I’ve been pumping out these weeklies, missing nary a one, through sickness and health, triumph and tragedy, that you (the reader) and me (the scribe) have developed a sacred, unshakeable bond. It would nauseate me beyond measure to think that any step I could possibly take would weaken, let alone sever, these ties. Please know that you will continue to receive these missives, under the same timelines, and based upon the identical format – one that as you know, features my often futile efforts to gather what remains of my wandering wits.

That being stated, the chattering voices inside my head have convinced me that a wider audience beckons, and that I must answer the call. So if you observe me blogging, tweeting (under the rather generic handle of @KenGrantGRA) you will have two choices. You can consider this an unacceptable betrayal on my part (I will love you no less if you do), or you can give me a pass.

Oh yeah, there is one other alternative available to you: you can join the band, the @KenGrantGRA Band, accompanying me on my virtual journey through soaring arena anthems, destroyed hotel rooms, mud sharks and other such delights.

There’s room for you (and any friends you might wish to invite) on the @KenGrantGRA Tour Bus, and Cowboy Neil (at the wheel) will pull over and let you off at any point of your own choosing. Do me a favor and think about it, OK?

*******************

Whether you believe me or not, the plain truth is that I hate to write about politics. I find it an unproductive, loser’s game. I tell myself that I have held more or less to the discipline of only doing so through the filter of political impacts on risk conditions. But you’ll have to make your own judgments as to how well I’ve actually adhered to this protocol, and how rigidly I’ll stick to the discipline going forward.

One way or another, I believe that politics hover over current market conditions in a highly menacing fashion, so this week, and perhaps for a spell going forward, I must at least move towards the borderlands of my pledge. By my judgement, Trump had by far his worst political week since he put his hand on that bible, amid so much protest, almost exactly five quarters ago. Let’s dispatch with the easily analyzed events first. Paul Ryan announced he’s stepping down at the end of his term, and, any way you look at it, this is not a positive development for the Administration. I’ve always liked my Janesville boy, and think he was one of the very few competent members of Congress. He did his homework, did his work, and, through a number of hits and misses, actually got things done. And I ask this to anyone in favor of any part of Trump’s legislative agenda: where we’d be now without his steady hand? But he’s riding off, taking the certified Republican House Majority down to a slim 22. Also, and, ominously (at least in a symbolic fashion), his departure means that nearly half (10 out of 21) Congressional Committee Chairs have now stepped down, and, given that it’s only April, that number could rise.

More chilling was the raid on Trump lawyer Michael Cohen’s office and home by those fluffy fellows from the Office of the United States Attorney Southern District of New York. Acting on a referral from Special Counsel Robert Mueller, they forced their way into Attorney Cohen’s private professional and personal lairs, and seized pretty much anything that wasn’t nailed down. Subsequent reports indicate that he’d been under investigation by the Southern District for criminal activity for several months, but the timing and the methods turn my blood to ice. Federal prosecutors have many methods to procure information from investigation targets, most notably their subpoena powers, and raids are the most aggressive of these tools. Typically, this type of thing is only justified when the target is either a flight risk (which Cohen clearly was not), or information suggests he was committing serious crimes on an on-going basis. So I hope for all our sakes, that whatever impelled the G-Men to give Cohen the Manafort Treatment be disclosed in short order. And it better be good.

Because, and I state this more in sorrow than in anger, attorney client privilege is so embedded in basic human rights as to not even require inclusion in the Constitution. It dates back to the Elizabethan Era, and is a core part of British Common law upon which our Constitution is based. We are now headed down a very slippery slope on the treacherous terrain of civil liberties, and however much you may be enraged by Trump, I urge you to bear in mind that someday, you yourself might need a good lawyer, who, if we’re not careful, may have his professional materials seized. At which point they won’t be of any use to you. If this ever happens (and I pray that it doesn’t), it’ll probably be lights out for your case. Of course, this won’t apply to everyone. If you happen to be very rich, powerful and aligned with the appropriate forces, not only will your private realms not be raided, but you will have the prerogative to respond to subpoenas by simply decided what, of the information demanded, you choose to share.

The deal struck between the Southern District and the Special Counsel is such that anything the former uncovers that might be useful to the latter will be referred back to them. And here’s where I can at least plausibly make my case of tying the political to the financial. Anyone who had a shadow of a doubt that Mueller is going for the jugular should disabuse themselves of this fantasy at the earliest convenient opportunity. There’s an end game afoot here, set to play out over the immediate months ahead, and I believe it behooves the risk sensitive to bear this in mind as they seek to navigate through these choppy market waters. Because I don’t think the markets will much like the action, however it turns out.

But equities, notwithstanding these and other worrisome events, gathered themselves in gratifying fashion this past week, with the SPX bouncing jauntily off of its 200-Day Moving Average yet again, and now resting in the friendlier confines of its 50 and 100 day equivalents. One might be tempted to ascribe the bounce to giddiness about earnings, and I’ve seen estimates of growth rise to the dignity of ~20%. But I’d be careful here. A large contingent of big banks reported on Friday (JPM, Citi, Wells, PNC) and despite ALL of them beating both profit and revenue estimates by a comfortable margin, EACH sold off in the wake of their announcements by >2%. This suggests that the bar is very high for a paradigm involving strong earnings being followed by shares being bid up.

Volatility has indeed risen in the equity markets, but perhaps a little perspective here is in order. The combination of renewed price action after the vol paralysis of last year, and a rally that has increased the denominators associated with percentage moves, may be creating the illusion that the Equity Complex is in hyper-volatility mode. However, statistics offer a different story. While February and April brought some truly noteworthy action, across the course of 2018, we’re still only looking at a standard deviation of SPX returns in the mid to high teens, which is about the norm in the modern market era. So the equity market has become more volatile, but not alarmingly so, and while it is likely to continue to rise, in percentage terms, it’s important to remember that we’re pretty much at historical norms. And in terms of options volatility, last week’s selloff in the VIX took this benchmark to under 17.5 – right about its median for the lifetime of this eccentric index.

However, in a continuation of a highly vexing pattern, non-equity asset classes remain stuck in the volatility mud. The following chart, coming to you through the courtesy of those dedicated public servants at Goldman Sachs, Inc., illustrates what it looks like when one asset class awakes from a winters-long hibernation, while others remain in blissful slumber:

I’m not entirely sure what this correlation drop implies, but it doesn’t strike me as the kind of breakdown that the ghost of Tom Petty could reasonably describe as being “alright”.

Meanwhile, as cross-asset class correlations have migrated to decade plus lows, the story is quite different within the equity complex. Here, correlations, have spiked dramatically, again as illustrated by those talented graphic artists in residence at Goldman:

Among other things, one might wish to review other periods when stock correlations took an abrupt leap forward, and the intrepid among you might choose to superimpose equity index graphs on the image. I myself am either to frightened or have too much sensitivity for my readers to connect the dots here.

It may be the case that the jump in stock correlations is more easily explained than the drop in the cross-asset class correlation metric.

To wit: there’s a great deal to worry us in current affairs that has little to do with the relative fortunes of individual companies. For one thing, us Yanks got together with the French and Brits to lob some bombs into Syria this weekend. I don’t know what impact this will have on the markets, and won’t know till at least Sunday night, so I won’t opine upon this development.

More visible is the trade war of words currently under way. No one knows how this will resolve itself, but let’s just agree that it’s a risky proposition. Certainly, the Energy Markets have taken notice, bidding up Brent Crude to a 3-year high, and even the long-suffering, ag-heavy Continuous Commodity index has shown indications of higher pricing:

Strong Trade Winds: Crude And Commodities

Thus, as anticipated, we are in what I believe to be the early innings of a high impact information cycle. My best advice is to temper your investment enthusiasm and add a healthy measure of reactivity. There are opportunities developing, but they will require all of your talents and energies to capture them. You may also wish to place an extra focus on risk management.

So maybe it’s as good a time as any for me to step up my whole blogging game. Lowell George asked for our participation, but he’s been dead for nearly 40 years, and we need to make use of the tools that are at our current disposal. Please, in any event, don’t judge me too harshly for my expanded electronic footprint. And, if the spirit moves you, be a good rascal and join my band.

TIMSHEL

Zook Suit

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I’m the hippiest number in town and I’ll tell you why

I’m the snappiest dresser right down to my inch-wide tie

And to get you wise I’ll explain it to you

A few of the things that a FACE is supposed to do

I wear zoot suit jacket with side vents five inches long

I have two-tone brogues yeah you know this is wrong

But the main thing is unless you’re a fool

Ah you know you gotta know, yeah you know, yeah you gotta be cool

So all you tickets I just want you to dig me

With my striped zoot jacket that the sods can plainly see

So the action lies with all of you guys

Is how you look in the other, the other, yeah, the other cat’s eye

— Peter Townsend

Plainly, and as anticipated, there is a great deal going down at the moment, so we might as well start with the most important developments. Topping the list is Zuck’s Capitol Hill testimony, scheduled to take place, not once, but twice, this coming week. On Tuesday, he will sit in front of a committee of the World’s Greatest Deliberative Body, and, given the latter’s historic and never-breached protocols of decorum, I don’t expect much drama. A better show is likely to take place on Wednesday, when he faces the wilder and woolier Lower Chamber. But on the whole I don’t see much intrigue in the pending exchange between our duly elected representatives and the world’s most high-profile Hipster/Nerd. Committee Members will look menacing, issue superficially difficult queries, and appear less than fully satisfied with the responses. And Zuck is sure to stick to the well-scripted, obsequious and cloying replies which, even as I type these words, his legion of overpaid lawyers is preparing on his behalf. I have a hunch that not much more will transpire after that, and that at least for a time, the entire episode will be dispatched to the level of focus now drawn by, say, the Las Vegas shooter investigation.

But all of this begs the most important question: what will he wear? I can’t remember an event with so much sartorial suspense this side of the Academy Awards. Surely he will shed his trademark vaguely blue/grey tee and chinos getup; in all likelihood he will shoehorn his way into a suit. But which suit?

One option will be to bust out his Bar Mitzvah ensemble, images of which I have helpfully sourced through a search from FB Frenemy enterprise Google:

Zuck’s looking pretty sharp here, but I find this choice unlikely for a couple of reasons. For one, he’s probably not going to be able to roll jacketless. Beyond this, it’s entirely possible that either: a) Mrs. Zuck (nee’ Priscilla Chan) has done the wifely thing and thrown these threads out; and/or b) trim as he may remain, he may no longer be able to comfortably wedge himself into this holy, historic outfit.

Thus, in all probability, he will have to bust out some new, or, at minimum, seldom seen, garments. And as someone who wishes him well in his astonishingly successful quest for global hegemony, I humbly suggest that he consider showing up in a wide-lapelled, high waisted Zoot Suit, the uniform of choice for the hep cats of the Roaring ‘20s. As many of my readers are too young to remember much of this high-flying decade, the getup looks something like this:

In addition to I believe setting the proper tone for his grilling, such a choice might help effect greater political balance — away from the measurably left-leaning vibe that Zuck has long exuded. To wit, careful pic observers will note the prominent presence of pinstripes that clearly bring to mind the wardrobe stylings of newly-appointed Director of the National Economic Council: former Cable TV sensation Larry Kudlow.

So formidable and terrifying are the Zuck’s powers of influence (or were, until at least a couple of weeks ago) that should he adopt my advice, he could set off a global fashion sensation. Soon, everyone from Paris Hilton to the Dalai Lama might be compelled to rock the Zoot, and that, at least from my vantage-point, would be pretty cool.

However, as important as this high-drama debate may be, we must move on, leaving the outcomes to Zuck and his tailor. Across our last couple of installments, I made the proclamation that the market’s already expanded volatility bands would further widen, and in a very real sense I was correct. Unfortunately, though, said widening has applied, well, quite narrowly, to the Equity Complex. Not much else is moving at all. The U.S. Treasury Curve does little but flatten, albeit at a glacial pace. In the wake of a somewhat garish late January selloff, The U.S. Dollar Index has wedged itself into a depressing/suppressed 3% band. Similar somnolent patterns have plagued the Energy Markets.

With brouhahas of varying configuration raging everywhere one cares to cast an eye, the question is: why? I met with one of the smartest and most successful macro traders of my wide acquaintance on Friday, and he was ready to pull his hair out at the stasis he observes across the risk factors upon which he is most focused.

And his beefs were not just limited to the price action in underlying instruments; he notes an absolute obliteration of options volatilities in this realm. He asked me what I thought, and I didn’t have a good answer for him. I did, however, agree that given the opacity that plagues the global capital economy and the rapid-fire stream of news bits (many blindingly irrelevant; others not so much), that: a) prices outside of equities should be more migratory; and b) some of these here non-equity options, instead of operating under fire-sale conditions, should actually be being bid up. I told him I’d look into it and revert back to him.

Anybody have any ideas for me? I am desperate to look smart and well-informed to this guy.

Still and all, there are some developments outside of the obsession-inducing world of individual stocks and associated indices that have caught my eye. One was that, with trademark anonymity, the Swiss 10-Year Note managed to slip below the Maginot Line of 0.0%, and now trades, somewhat improbably, at a negative yield:

Thus, a country which produces cheese, chocolate, watches and little else, an economy which is dominated by a deeply impaired, arguably insolvent banking industry, is actually paid by market participants for the privilege of lending to them. And the trend towards easy financing has spread to the neighbors they refused to fight – with or against — in either of last century’s world wars: yields in France, Germany, Italy and even freaking Sweden have declined materially over the last couple of weeks.

But if you’re hunting somewhere outside of equities for volatility, you may want to take a look at the Agricultural Complex, which has anyway shown something of a pulse this year:

As the graph’s caption explains, a good deal of this action is probably catalyzed by the Trump Administration’s well-thought-out, nuanced and impeccably executed trade skirmishes. I am supposed to be something of an expert in these markets, and, to the best I can discern is that the Chinese import a lot of Soy Beans from us, and feed them to their similarly imported Hogs. So the escalating tariff rhetoric is good/bad for Soy Beans/Hogs, as is reflected in the price action. I hope that I’ve made myself clear.

One way or another, the continued war of words on international trade and other pertinent matters is clearly driving investors somewhat batty. I truly wish that this cycle would end, but hold out little hope for this miracle any time in the foreseeable future. After all, it’s not as though we don’t have a great deal of other information to process and seek to monetize. Case and point, just this past Friday, after a somewhat surprisingly tepid March Jobs Report dropped, and just as investors were catching their collective breaths and maybe even trying to look on the bright side, Chair Pow took some questions from a reporter, and his answers offered scant comfort to anyone seeking it in that quarter. Perhaps owing to this end-of-week double whammy, the Atlanta Fed’s GDPNow tracker exhibited some renewed gravitational pull:

On the whole, however, I am inclined to believe that equities will continue to drive the risk pricing train. Last week, they rallied hard early and then sold off even harder, and Q1 earnings have not even begun yet. They start in earnest next week with the banks, which, in eerie consistency with the bizarre paradigms currently vexing us, have all scheduled their releases for Friday the 13th. I will be watching these tidings with a careful eye, and in particular for any hint of what Lloyd, Jamie, James and the rest have to convey about prospects for the rest of the year. The action will be fast and furious from that point onward, and here there is some good news to report. Not only have growth estimates retained a lofty 17% handle, but according to the infallible FactSet, positive pre-announcements have clocked in at a record high:

The chart further shows the skew of these happy tidings towards the recently beleaguered Tech Sector, but I have my doubts about the final outcomes there. Soon after Zuck gasses up his smoke and bids goodbye to Washington, he, Bezos, Serge/Larry and TCook and the others must face their own investors. If I were any of them, I might check in with my CFOs and see if I could possibly defer some revenues and/or accelerate some expenses. Given the horrific P.R. onslaught that has assaulted each of them lately, I think it’s a sound strategy for them to sandbag their numbers. Their stocks will sell off further, to be sure, but they can catch up later, and I just don’t think this is a good time for them to announce earnings moonshots.

One way or another, I expect their guidance to be particularly unpretentious. It’s just hard to imagine someone like Bezos stepping up to the podium and saying something akin to “me and the boys were poolside in Pacific Heights and we’re feeling pretty strongly that we can take our share of the NDX valuations from 50% to 90% this year”.

Guidance beyond San Jose will be especially important – given the looming and growing political risk — about which I have been expounding for the last several weeks. I continue to believe that these matters loom large on the horizon, and our fearless leader does nothing but fan the flames of his potential demise – through his trade tantrums, his attacks on companies like Amazon and – perhaps even worse – his more recent tweeting down of the markets in general. Again, all of the above portends a continued upward trajectory of volatility for the foreseeable future – at least for equities.

As for the other components that comprise the broader market, I reckon we’ll just have to see. My guess is that vol will spill over into the other asset classes; perhaps soon, but one thing is certain: until it does, it won’t.

But all of this is small potatoes. When all said and done, the only thing that truly matters is that you follow my example and make sure at all times that you look fabulous. I expect Zuck to act accordingly, and, my dear readers, you could do worse than bearing this mind yourselves.

TIMSHEL