JPM’s Quant Wizard Returns To The Dark Side, Warns Of Coming "Market Turmoil"
By Tyler Durden
Having taken a jaunt with all the other recently converted bulls over the past month – ever since Trump’s presidential victory, which nobody anticipated and all the experts predicted would be bearish for stocks – JPM’s quant wizard, Marko Kolanovic has released an “add on” to his wildly bullish “Outlook for Equities” piece from last week, in which he makes a gracious return to the dark(ish) side, warning that “further withdrawal of monetary accommodation would likely lead to turmoil in financial markets” although, he adds, higher oil prices and lack of investor focus on China/CNY mean risks are lower than last January.
He notes that the initial market reaction to the election, with positive equities and the idea of reflation, have been accepted as base-case, however he then warns that this will revert similar to the first quarter of this year, and we will see a pullback in USD, and outperformance of EM assets, commodities, and value equities.
Kolanovic also says the “risk on” nature of the market reaction (bonds down, equities up) prevented a more rapid deleveraging among quant-driven funds going into the U.S. election, however should bond yields continue increasing, with 10Y beyond 2.75%, this will risk an equity selloff that usually triggers a broader deleveraging of var-based strategies. As a reminder, 2.75% on the 10Y is also the threshold which Goldman said last week would result in a stocks selloff.
“Absent another leg of the market rally, this overhang will weaken and at some point reverse, leading to an increase in realized volatility levels” Kolanovic notes.
Next, when looking at his bread and butter, volatility, Kolanovic says the VIX appears to be 3 points too cheap (1 standard deviation) relative to dozens of different macroeconomic variables, however instead of buying the bottom in VIX, Kolanovic is a seller of bounces and repeats his call that VIX in 2017 will likely trade in a similar range to 2016. To wit:
Periods of low volatility are likely to mask underlying fundamental risks and be followed by quick outbursts of volatility that may not last long enough (due to unwinding of hedges, opportunistic selling of volatility) to be captured by an average investor. Hedgers may buy volatility ahead of an event and sell shortly before the catalyst to capture volatility grinding higher. To gauge market risks, equity investors should watch for further increases in bond yields and strengthening of USD.
Still, he does warn that “an upside risk to our base case volatility view is if the US were to enter a recession (to which our Economists assign only a ~25% chance over the next 12M), and a downside risk for volatility would be a quick and effective US fiscal stimulus alongside continued monetary accommodation that causes a rally in risky asset classes.”
When looking at sector and factor dispersion, the JPM quant believes low volatility stocks and segments of tech and discretionary (large cap Internet) may continue to be under pressure due to rotations.
Furthermore, confirming something we have been saying since 2009, Kolanovic …read more
Source: JPM’s Quant Wizard Returns To The Dark Side, Warns Of Coming "Market Turmoil"
