Something seems to have changed.

Back in July, I wrote a post about the market structure. This led me to a lot of chart drawing, reading, interviews watching etc… because when it comes to equity markets (US in particular), something seem to have changed.  Yes, liquidity (QE & Co) has to with it but there have been some deeper transformational changes.

1. In “Liquidity trap revisited” of August, I pinpoint to the fact that the US stock market  is “used” as a low volatility play for most foreign investors. The US stock market is a liquidity “hedge” and basically the sole able to absorb liquidity excesses with relative ease.  Somehow this has become a self reinforcing move due to its tremendous over performance comparing to its peers.
2. In “are there limits” of early September, I draw the attention on the growth of the volume of the derivatives market. The Softbank “Gamma” play was being looked at as one factor behind the Nasdaq melt-up & down.

Sure, equities trading volume have increased but equities derivatives volumes have exploded. There are some reasons behind this but it has become cheaper and anyone can trade with a smartphone whatever options strategies/products.

I use extensively Technical Analysis (TA) as a tool to show me the inter relationships between asset classes etc. However, TA offers many ready made and or custom made indicators to help you get a better reading of “behaviour” of the market and its participants. A few curious things have been happening the last few years. First, we have witnessed quite some dramatic price swings with 2020 being the most extreme so far.  When you look at volume behaviour, volatility,  breadth, advance decline ratios, options ratios, skew etc.., “traditional” top and bottom behaviour do not seem to match as it used to be. We have some kind of lack of capitulation at bottoms and breadth thrust at/near tops etc..

Yes, BTFD (Buy The F… Dip) has become profoundly accepted and embraced since whatever happens… the FED is giving a “Free” Put to everyone.  2020 has seen flocks of retail investors playing this game and fueling quite impressive market actions. 

I do not want to extend on too many technical issues but I think I found a manner to best show you the transformational changes of the recent few years. 

Here are two long term charts. 1) S&P 500 and 2) Soybeans.  Now look at the light orange long term MACD line. The S&P  2000,  2008, 2014 MACD Tops were softer, rounded.

Now when you look at the Soybeans MACD, you will observe much more spiky actions.  

Conclusion: The S&P 500 is behaving more like a commodity.  Commodities trade differently than other asset class. Market swings are much more driven by speculators than producers and buyers. They are “Futures” contracts driven (derivatives). For each buyer you have a seller and both will need to unwind /close their  positions (remember the negative oil prices?). So FEAR is a much more important drivers for commodity speculators and this is the main reasons behind the spiky price actions. 

Charlie McElligot from Nomura has been covering quite extensively the “Gamma” Squeeze & price actions induced by massive derivatives positions. Softbank team was smart in leveraging on  the retail waves and market megacap concentration.

Is this game over?  I do not feel that market participants have really weighted such “subtle” changes. In the meantime, wild price actions are probably in the cards and will leave traditional asset managers scratching their heads. Hedging cost money, PUT Spreads strategies are much sought by traditional buy & hold investors but  I do not know  about their willingness in keeping rolling over regularly such protective measures. 

The US market has become the stock money flow lighthouse of the world but the underlying conditions have become more complex beneath the surface. Somehow  the US Stock market has become the buffer of the Liquidity & Derivative “Jelly” since TINA (There Is No Alternative). 

Good luck to all