Is the Goldilocks Forecast Too Good to be True?

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1:08Is the Goldilocks forecast too good to be true? Hi, everyone. Welcome to the Real Vision Daily Briefing with me today is Jem Carson, founder and senior managing partner at Kai Volatility. Hey, Jem, it's great to see you again. It's always good to be here. Great to see you. So we have some really interesting actions to talk about. We're anxious to get your thoughts, but I'm surprised. I just did a last check and stocks managed to edge up after being lower, not significantly lower, but after that sort of monster rally we've seen. Looked like they were going to end in the red, but the Nasdaq tipped in positive territory.

1:41S &P up a tenth of a percent. Only the Dow and Russell were down. And it's been an unbelief. That's on the back of not only the rally this week, but a really good-looking November. The Nasdaq up, I think, 9 % so far. S &P up 7%. I mean, such a big move. We saw data out today that showed continuing claims for jobless benefits here in the U.S. at their highest level in two years. Factory data, home builder sentiment was also lower. So that sort of combination was enough to see Treasury bond yields moving lower again. So, Jim, last time you were on, I seem to remember and I went back. You sort of, and that was September, walked us through this really detailed roadmap on why we were likely to see this happen, especially if we were paying attention to the structural flows that you watch so closely.

2:34And you really felt like we're going to start to have an effect in the sort of November timeframe. And it looks like it played out to a T. to walk me through, you know, what you've been watching and how this is, how this has been looking on your radar. Yeah. Just to review, we were saying, you know, somewhere between 44 ,000 and 4150, as long as we didn't lose 4 ,000, it was a, it was a screaming buy and that the market should do a pivot on November 1st. And that's exactly what happened. 40, 4107 in cash is where we, I think bottomed and November 1st was the day. Everybody would point to macro this and macro that, But yeah, macro matters.

3:13But this time of year, all these structural flows are overwhelming. And in the context of macro flows that are negative, but maybe not negative enough, they will get overwhelmed. And that's what we saw. Yes, we got some positive macro, like you're saying, sorry to interrupt, but we did mention on the pod here, too, that we would expect that the Fed would start to, given the liquidity at the end of the year and the way bond yields were pushing higher, the more in Gaza, et cetera, that they would blink. And they blinked a bit down there. And that Treasury would probably shorten their issuance and also slow down a little bit of the issuance as well.

3:55And they did that as well. And again, that's the reflexivity of policy as well. It's not just the reflexivity of markets. So the probabilities point in that direction. and the markets, all they needed was a little push. They didn't need much given those structured flows. And I would argue they probably didn't even need that. The path would have been maybe a little less steep if that hadn't been the case. But yeah, it's pretty, these structural flows are hard to deny. Does the fact that we're seeing some of the economic data start to work along with that sort of slowing inflation scenario, does that just help that?

4:31Does that just give them an extra push? Or is this sort of happening regardless? And we shouldn't pay that many attention to the headlines. It matters, right? It matters to the extent it affects liquidity. I mean, macro is a Royce-Herrink block test, right? People at some point will start saying, oh, the economy, we're going into a recession, right? So you can decide, is a recession bad for the market or good for the market? Let's debate, right? And the point is, you can see it how you want to see it. If the market's up, it's good. If the market's down, it's bad. And the reality of the situation is it's good broadly because it increases the amount of liquidity provided to markets.

5:07And that is ultimately what matters in the short term. A stock value is a function of supply and demand. There's just less supply in that context. So I think that's really important. That said, again, there's reflexivity. The more the market rallies, you better believe that the Fed's going to start coming in and talking down kind of economic effects. and start selling proverbial calls. And you better believe that the Treasury is going to take that opportunity to accelerate issuance because the market's taking it well. There's liquidity. You better take it while you can, right? So there is a ball-dampening, mean-reverting function here that I would not lose sight of.

5:49That said, I think the structural flows, which are more consistent and less immune to these whims of emotion and reflexivity, are much, much stronger. And that's the thing that's really the kind of the finger on the scale. So when we're talking about structural flows, you sort of categorized them last time. But what are you looking at now? So you called it, you got that market turn. We've seen what's happened in November. I mean, it feels like we've already lived the month. I think probably because we're coming up on a holiday too here in the US. But we've still got days to go in November. So how do you see this playing out from here?

6:29Are the structural flows just going to continue to pick up momentum? How does this work? So the flows are fairly immutable. Like the function that drives them, yes, that function is not just a linear bifunction, right? There's certain nuances to it. But those flows and the function that governs them is fairly immutable. Those things have to happen, you know, tied to like their reaction function. That said, there's other things other than these flows, which are entities getting out, knowing that the flows are there, getting out in front of them, trying to push things higher, the reflexivity that comes as a function of them and to policy and positioning.

7:08So all of those things matter and play against it. That said, those flows are coming, and they're dramatic, and they're significant. So the question is, is there enough supply that's been created to counterbalance and slow it down? But regardless, you have these flows. So what does that do? That really takes the left tail down, right? Does that mean we're going, you know, dramatically higher? Probably higher, but hard to say, right? Those flows are coming, and that's incrementally good. That softens the downside. I often kind of try and give imagery, it's like a beach fall underwater, right? That every time the market does decline, you're going to get these positive flows.

7:46But does that mean we're going to go exponentially higher. Hard to say, but it does change the distribution dramatically. Why? Let's review real quick. I have six reasons here that I want to touch on real quick. And we've said these before, but I think it's really important. First, it starts with vol supply. There's a massive amount of structured product issuance and vol supply, particularly in this window. That means dealers are long volatility. That means they're forced to, as the market goes up, sell, and when the market goes down, buy. It starts there. But importantly, a lot of that structured product issuance is in the December, the December end of quarterly, the January.

8:26All of these are the biggest expirations of the year and the biggest issuance of the year because they're the end of the year. And all of that is potential energy. It's all short put to dealers, short stock that they have to buy back. I call those the Vana charm flows broadly. Those have to come back. But now, not only do you have this big potential energy, not only is vol compressed, so it's more likely that the tail doesn't appear and that stock has to be bought back. But now you have an acceleration in time because we have all of these holidays, not just the holidays themselves, but the days around it where people don't work.

8:59Thanksgiving is not just the Thursday. Nobody's working Friday. Nobody's working Wednesday. Christmas isn't just Christmas days. It's all the days around it. And so that accelerates the amount of volume weighted time I call it, the amount of volume that happens this time of year as a function of time, right, is 30 % lower than any other time during the year. And that just means 30 % more of an acceleration. Four, the holidays happen right in these windows of weakness right after expiration. Thanksgiving is coming right next week, right after this expiration. December, same thing. Those are the most dangerous weeks.

9:32Nobody's here. And so we're accelerating right through the most dangerous periods and going to the good stuff. And so that matters as well. It's important to note that there's very low liquidity at the end of the year. People are closing their books. Less people are participating. That means the average amount that takes to move markets is lower. And if you have these positive flows in the context of less liquidity, that can mean even more upside. There's just less that can absorb it. And then lastly, most importantly, actually, best for last, is that the market up 18 % for the year. Call it 20 % just to make the math easier.

10:07If we have$100 trillion of equities globally, that's$20 trillion of new collateral that's been created. That's new money. I'm not saying$20 trillion is going to work Jan 1. It goes to work through the year as it goes as we go. But we just had a big rally. So a lot of it's coming now. And on top of that, you have something that has a lag that doesn't go to work until the first year if it's 10%, which I think it's actually probably more, that's$2 trillion to go to work in the context of a market that takes about$50 billion to move on a daily basis. It's a huge tidal wave of buy demand. And so this is why Santa Claus exists.

10:40This is why the generation - I'm going to tell you, shield the children's ears, but that's amazing. No, kids, Santa Claus is real. That's the crazy, that's the headline, right? You know, the reality is it's not a mythical construct. It's a real thing. Santa Claus comes for a reason. And but there's also, you know, the January effect that follows him after that. And those are the most positive four weeks of the year in a positive year. And that's an important kind of driver to these flows. Hey, everyone, we're going to take a quick break right now to hear a word from our partners. We'll be right back with more of the day's top analysis on the Real Vision Daily Briefing.

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12:27Amazing. So if we're looking at this now, given that, should we think about it? I think people are nervous when they see the speed of the move that we just had. And so they're torn and we get a lot of questions around this. Do I chase it from here? If we see this sort of rally, the Santa Claus rally into year end, Do I get in and take advantage of it? Or do I try to hang back, especially for those people who've been sitting in a lot of cash because it's been yielding? Do I sit back and then try to buy the dip? Is it inevitable that we're going to get a dip? How should people be thinking about this against those flows and seasonal aspects?

13:07No guarantees you're going to buy a dip. I'm out here talking about this. Other people know about it. And the weight of the evidence is strong. That's why markets are running like they are. That said, they've run quickly. And could we get some digestion in both time and price? Yeah, probably. We're entering a more, those positive structural flows are now off the table for a little while, for a short period. But they're going to be accelerating, coming back quickly. So during this specific week or two, it's more a function of how many people are going to try and buy to get out in front of what's coming after it, less about the structured flows.

13:46and it's run quick. You might get a pullback. You might get some digestion. Again, this is what you'd expect here, right? Just some sideways action given the demand's not there, but people still know some other stuff's coming eventually. So my view would be, yes, buy this, but buy it as a function of time and price. Be patient, but you don't have much longer than a week or so. And then when you're back in those positive periods, you gotta ride this. You're positive with a trailing stop at the 20-day on a closing basis a couple of days, basically. And I think that's the trade. We've seen a big move.

14:27By the way, when we're talking about all this, if at any point you need sort of like a refresher, remember on the platform now you can bookmark it. You can put a note in. You can use the AI to go. And you can, of course, check out all the options stuff on the Academy. Jim, give us a master class every time he comes on with us. Thank you for that. But if you need to sort of just make a note for yourself so that you can go back and dig into it more, do that. We've got some Black Friday specials, some crazy ones on leveling up if you want. Brian, if you could stick all that info in, members have access to it now.

15:02The rest of you will have access to it next week. And we'll make sure to give you all the information, but some really good stuff. So check it out. So we have been in this period where Treasury yields seemed like they were driving everything. We've seen a big move on that side as well. Do we have similar dynamics happening? How are you looking at Treasury yields? So going into the end of the year, if you believe what I believe, that these structured flows are going to keep pushing the market or holding it up at the very least, but incrementally pushing it higher, the Fed's reaction function and the Treasury's reaction function, as I mentioned, pretty clear, issuance is likely to increase into that because they want to get it out of the way.

15:44They want to raise that capital while they can. Next year, they don't want to be providing this negative liquidity to the market in an election year. The Treasury doesn't. That's pretty clear. And then the Fed is going to not want the market to run like that as well, because that reflexively will stoke inflation and get the economy hot again. So we've already been seeing that since we got this 5%, 6 % pop in the market. that we're seeing more Fed speakers come out and start to say, whoa, whoa, whoa, hold on. Remember what we said just a week and a half ago? Disregard, right? And so I would expect that to incrementally provide pressure yields.

16:26On top of that, I think an important thing that people forget is that at the end of the year, institutions, from a regulatory perspective, have a need to keep hard capital on their books for that December 31st push. So you end up getting a lot of support to yields into the end of the year and demand for capital, which should support yields not collapsing, if anything, going a little bit higher. That said, that's the short-term view. We're talking about a couple months here, a month and a half. Once you hit January, our belief is that we are going to get some type of general market decline, I think bigger than what we just saw, probably from higher.

17:08And this is back half of January into February. And if that does play out, again, if we get the rally and then the decline, then the yields were just kind of artificially held up. I think at that point, the yields can come down a bit. And I think that the story then will be disinflation, all the stuff that you've heard, and everybody will start drinking that Kool-Aid again. I think at that point, ironically, that you're going to get a steepening. And I think that the 10-year will actually not decline that much. And then I think short-term yields will start to walk down. And ironically, I think as that steepens, eventually now we're going to start playing the next leg higher in long-term yields.

17:45So I think that's kind of the first step is support here, more than people expect into the end of the year. Then eventually when the market tops and declines, you're going to get yields kind of come back in a little bit, maybe in the three-handle. And then I would expect that sometime, you know, as we get midway through next year that, or longer, you know, maybe towards the end of next year, you're going to start to see those yields really start to wake up at the end of the curve and start chasing them, front running what is a hotter cyclical liquidity effect from Fed stimulation coming back, or at least stopping the war against liquidity, right?

18:20And at the same time, you know, start seeing the structural effects, demand effects that already exist locally, pairing with that to cause more structural inflation. So We're long-term inflation, but we think that in the short term, you will see a recessionary kind of pivot by the Fed. Ultimately, when they do, that will be the next big leg higher. But I think there's some time between here and there. Yeah, I remember that you're in the sort of camp of more sort of a different inflation regime now, not that. Interesting question. I left this handle. The market is rigged. It gives us an indication of the perspective.

19:00They say, you mentioned last year that when the talk of Goldilocks gets traction, the pain trade will follow. Do you see it happening next year? I do. The soft landing talk, we're already starting to hear it. I think there'll be more. There's, again, time between here and, let's say, February, where the market, I think, will go quite a bit higher and then lower. And then there'll be a lot of talk between there about how the Fed manage things and things are doing OK. Victory laps. Yeah, victory laps. They're already happening. I think when that happens, again, we'll see that next leg higher. And that's probably going to involve, again, a Fed pivot and the cyclical flows coming back to pair with the structure flows.

19:45And we'll get us a next leg higher in inflation. Next year is an election year, too. So it's not just the Fed. but it's the fiscal response that's likely coming next year. I would 100%, you know, if we get any pullback in Jan, Feb, March, the amount of fiscal response and the speed of which it comes is going to be, it's going to be amazing. And you can quote me on this. They're all going to be tied, the inflation, whatever, right? Everybody's going to be, you know, we're going to be battling inflation, but with fiscal policy, that makes it all worse again. Yeah, and that has, of course, been such a big contributor for what we've been dealing with, all of the lag effect of that.

20:23And that's a new situation. We just have not had fiscal participating in that way for many years. And now we do. And everyone's trying to figure that out. So figure out what that means. And especially when it comes to the timeframe of when it starts to hit the economy and inflation. That's been one of the things that really upended people this year, it seems like. Yeah, absolutely. I mean, it's amazing how long we've been saying transitory, right? And that demand just keeps on clicking. And that's the reality. You're going to keep getting money to demand. And that's ultimately what drives inflation.

20:56The Phillips curve matters again. The more we close borders and you can't just keep inflation down by exporting and by giving money to technology and accelerating the effects of 0 % interest rates on margins. So yeah, at the end of the day, we're a closed system again. the more we have deglobalization and whatnot. And that closed system ultimately means there's more inflation. Doug asking, when does this liquidity begin to drop? The structure, which liquidity, I guess, would be my question. Are you talking about the structured flows I'm talking about? Well, let's guess. Let's start there. Let's guess on that.

21:38Yeah, the structured flows, as I mentioned before, should be strongest into the end of the year. into the first week of the year. And then that hands the baton to kind of some of those Vanna Charm flows in January 17th. Again, that would be a date. If you ask the exact date, we got the November 1st part right for the pivot. So I'll throw January 17th as the next pivot down. Oh my goodness. We're going to write that down because that is crazy. It was exactly November 1st and wow, did it take off. So well done on that. Okay. Some really great questions, everyone. OK, so let's see. Frank's saying, if the market starts to weaken mid-January, are you seeing a stair-step-down playbook similar to 2022?

22:25Or would the market take a more violent approach down due to less hedging? A couple of things to that. One, first of all, it depends, as always, on where are we starting from. So this decline that I'm talking about would be off the table if the market's still here. come January 17th. I'm not just saying, oh, the market's going to decline. If the S &P is 2 % lower than here, there's not much of a decline coming in January. That's a function of, it's a conditional function. So if we go up during this period, and there's a lot of flows that make that likely, and we go up not just a little bit, but we go test somewhere just below or just above the all-time highs, which I think is likely, that would be the perfect time to roll over.

23:13Why? Because as we do that, A, we're creating more potential energy. We've kind of pushed the market higher, and now we're further off the ground. And then on top of that, as you go, the vol on those calls is really low. So we're going to get to a really low implied vol, which tends to bring back buying and vol and tends to change the vol supply dynamic, which is very important because, again, calls are on a much lower vol. So you slide structurally onto a much lower fixed strike vol. And then on top of that, you squeeze short. So a lot of the positioning naturally changes as you go higher. Everybody gets forced back into the market, and that creates a supply-demand balance the next time the market sells off, right?

23:49At the end of the day, if there are a lot of people short in the market, that creates demand into a declining market. But if you squeeze out the shorts and push the market higher, this is a lot of times why we get these blow-off tops. Then the amount of liquidity to support the market and decline is gone. So you have multiple things that play out into these structured kind of blow-off tops that often lead to much bigger, more volatile declines, and they tend to happen at the end of a cycle. So if that happens, I would expect it to be relatively volatile, but you'll know when you get there, right?

24:19It's a function of seeing those signs that I'm talking about. We're going to take another quick break to hear a word from our partners. We'll be right back with more of the day's top analysis on the Real Vision Daily Briefing.

24:35Jason asks, what's your take on commodities, more specifically WTI and crypto, during the timeframe that you're discussing?

24:46Crypto and tech, my personal view is in the short term until January, will do very well because they're, and it'll be very counterintuitive, much like it was earlier this year. I think yields will hang in during that time, and duration shouldn't do all that great, right? And there'll be more talk of recession, but yet tech will do, you know, but that's just a function of supply and demand. So I would expect that to be the case. Same with crypto. I think crypto and tech are kind of lumped. You can lump them together there. In terms of commodities, I do think I'm very bullish of commodities broadly, but I think this is going to be a period where it more muddles through.