Prepare for Another 'Volatility Panic'
Prepare for another 'volatility panic'... Investors are piling back into the 'short vol' trade again... Checking in on Steve Sjuggerud's bold interest-rate call... Why we wouldn't bet against Sjug today...
Well, they're determined, if nothing else...
Regular Digest readers will recall that February's "volatility panic" was driven in large part by highly leveraged bets against the Volatility Index ("VIX").
As the VIX drifted lower and lower over the past couple of years, many folks came to see this so-called "short vol" trade as a sure thing. They piled into leveraged futures bets... or worse, leveraged exchange-traded funds ("ETFs") and notes ("ETNs") designed to move inversely to the VIX. In other words, if the VIX fell 1% on a given day, these vehicles would gain 2% or 3%.
For a while, this trade was easy money... As we've discussed, traders in these vehicles had made hundreds and hundreds of percent over the past couple of years.
Of course, the reality is no market moves in a straight line forever... And leverage is a two-way street. So when volatility suddenly soared more than 100% in February, these vehicles suffered a devastating collapse. "Investors" lost up to 90% of their money... erasing all of their gains over the past several years and more, literally overnight.
That's a bitter pill for anyone to swallow...
But at least these folks – the ones who weren't completely wiped out, anyway – learned a valuable lesson about leverage and risk management that should serve them well in the future.
Right?
Well, maybe not. As Bloomberg reported on Tuesday...
Here's one to file under the market's memory-loss.
The volatility complex – the selling or shorting of options tied to U.S. stocks – is back with a vengeance, shrugging off February's vol-mageddon in its wake.
Hedge funds hold the most number of short positions on the CBOE Volatility Index since late January – before the record spike in the gauge that wiped out over $5 trillion in global stocks and jolted investors from their complacent slumber.
Meanwhile, money managers are back to selling products linked to equity price swings en masse, either to speculate conditions will remain subdued or hedge underlying exposures.
We're willing to bet they'll learn another valuable lesson soon: "This time" is never different.
Speaking of crowded bets...
Regular readers also know our colleague Steve Sjuggerud recently made a bold call: He predicted that interest rates were likely to fall over the next several months. And because interest rates and bonds trade inversely, he recommended a bullish trade on bonds to his subscribers.
Now, like us, Steve believes interest rates are likely to trend higher in the years to come. As we noted at the time, this was a shorter-term trade... And Steve made it for one simple reason: Like the short vol trade earlier, bets on rising interest rates had become incredibly popular.
Speculative traders were holding a record number of short positions on bonds – which again, means betting on higher interest rates – at that time. And as he reminded readers, "when a trade gets this crowded, the consensus is usually wrong."
Of course, as Steve himself often says, sentiment is not a precise timing indicator. Interest rates – as represented by the benchmark 10-year U.S. Treasury yield – continued higher, eventually reaching as high as 3.11% in mid-May.
But rates reversed sharply lower soon after. The 10-year yield fell to nearly 2.75% as the month was ending. It now sits just below 3% again... virtually unchanged from when we first mentioned the trade in late April.
Steve believed rates could fall back to 2.5% or lower before year-end...
And he recommended a specific trade to his True Wealth subscribers that could return up to 50% as they do.
So we don't have to tell you this performance has been disappointing so far. Steve's recommendation is showing a small loss today. But before you write this trade off as a rare "miss" for Sjug, you should know something important...
Despite the sharp pullback in rates in recent weeks, speculators haven't unwound these record bets. According to the latest Commitments of Traders ("COT") report, they've actually continued adding to them and now hold a fresh all-time record for short positions. Take a look...
In other words, Steve's bullish short-term bond thesis is even more compelling today than when he originally recommended the trade.
So while his prediction has been technically "wrong" so far, we suspect he'll be proven correct before it's all said and done.
In today's mailbag: More on "teaching vs. learning"... and at least one reader is ready for the coming credit default cycle... What have you done to prepare? Let us know at feedback@stansberryresearch.com.
"Dear Stansberry subscribers, I want to help set the record straight because the comments to Porter about his "no such thing as teaching" statement are painful to read. Before jumping the gun and assuming that Porter, a man dedicated to providing quality education, literally thinks that there is no such thing as teaching... you have to weigh the evidence before getting yourself all worked up. Too much stress and they will have to send you for treatment from Doc Eifrig!
"I work in Customer Service management for a major company and my personal goal has always been to instill the values in the people I get to lead that will grow their character and make them WANT to be the best associates and people that they can be. Their ownership, behavior, and implementation is needed to accomplish that goal. I can teach them and give them all the wisdom in the world to really excel at work and in life, but they need to put the tools to work to see the success. Porter's comment is literally just a spin-off of the old saying, 'You can bring a horse to water, but you can't make him drink.'
"Daily, Porter and the Stansberry team dedicate their lives to literally teaching and educating us. Why? Because they care about us being successful with their tools and becoming the best individual investors we can be. The frustrating thing about the burden of teaching AND caring, is that you truly feel that there is no such thing as teaching UNLESS the learners do their part in the tango.
"Let's all decide to be 'Good Learners' so that teaching cannot only exist, but multiply." – Paid-up subscriber Erik F.
"Let it pour, let it pour, let it pour! Stansberry's Credit Opportunities and I are ready!" – Paid-up subscriber Richard E.
Regards,
Justin Brill
Baltimore, Maryland
June 6, 2018