Lori Calvasina

Callie Simpkins

Amy Wu Silverman

Yeah, so the up crash has been interesting because, there's this nuance, a lot of people say it's a melt up, and I've been really keen to be like, ‘look, it hasn't really been a melt up, it's been an up crash.’ And why do I kind of fixate on this distinction? It's because we kind of took this study and we said let's just take all S&P500 stock returns since about March 30, which you could argue was kind of the low, and when you slice those into return buckets, so you say, ‘hey, here's my pool of stocks that are up more than 25%, up more than 50% versus my stocks that are down, say, 10% or 20%.’ When you look at these return buckets, and you just look at their realized volatility since that March 30 low, you have seen substantially more realized volatility on the upside than you have on the downside. So that's why I'm very clear that to some degree has been this up crash. We have experienced it, and we continue to go further. The other element I would say has been so crucial is usually in option markets, when the market goes up, volatility usually declines. It's because things are better, everyone's happy, right, and we haven't seen that at all. We've seen this dynamic, which is more spot up, vol up, but all that is to say is your volatility is rising as your market is rising, and so some of these metrics that we typically look at, so the VIX, for instance, we have to take it with a grain of salt, because if we are rallying and the chase to the upside volatility is what is causing that volatility metric to rise, then is really is that a fear gage? I don't know. So, when you think about this up crash, we're still kind of in this FOMO MOMO area. We haven't left it yet. There are many different ways we categorize that, but the bottom line is there's probably still more room to go, even though we are quite frothy.

Lori Calvasina

Callie Simpkins

So, if we have more room to run, based on what you're seeing, Lori, from the fundamentals. If we are in late innings but not quite yet the top of the market from what you're seeing. Amy, in the equity derivatives market, can you talk to us a little bit more about the MOMO FOMO part of this next leg of the trade, and how can we take advantage of that as investors?

Amy Wu Silverman

Yeah, the good news is there's a lot of interesting things to do right now. I'd say one is, again, this spot up vol up dynamic, essentially what it has created is an incredibly expensive call wing. The upside trade is a lot more pricey than the downside trade. So something we've been talking to clients about is a really simple structure, which is called a caller. So very basic, you are selling upside, that, as we mentioned, is very pricey, and you use it to fund buying downside. So, what happens is you're getting downside protection at very, very low cost, and in some instances, because of this call exuberance, you're actually getting a net collection of premiums, so meaning you're actually getting money in for putting on protection. And look, if you're someone who has actually been in the right trade, if you're someone who's got winners on your book, and you're looking, you're saying ‘even if this does have some room to run, we acknowledge that we're in the later innings. I'm willing to give up maybe slightly a little bit of upside, and in exchange, if something does occur, the fact that I can get my downside protection essentially for free is very compelling.’ So those trade structures that we recommend folks look at now basically take advantage of that fact that that call wing is completely out of whack, completely driven by FOMO and MOMO, which look, we know momentum does tend to beget momentum, but we also know at some point that momentum does stop.

Callie Simpkins

I think that's a great segue into the next part of these four paths forward. So, these are ways that you can take advantage of the current market structure to put on downside protection if you're worried about a pullback. So, what is on your radar? What keeps you up at night that could get us into that pullback? So, let's think about a garden variety pullback, and let's think about, like, recession fear, greater pullback, those two things. What do you think?

Lori Calvasina

Callie Simpkins

Great. But what about a black swan event? I think it's hard to talk about a black swan event without talking about Iran and the conflict and energy. So, I'll put that to you. Is there anything else that's on your radar?

Lori Calvasina

Callie Simpkins

So, to piggyback off of that, when you talk about tech, the last time that we were together talking about potential fears or issues that could crack the market, software was a big theme, right? And particularly for the credit markets, there had been a lot of lending in the software space over the past five years, and with the introduction of AI, those fears really started to culminate at the beginning of this year on how AI could disintermediate software, particularly as it pertained to the credit markets. IGV now is up 30% since April 10th lows. Amy, can you tell us about what you're seeing, what you're hearing? Are there fears culminating again in software. What do people think?

Amy Wu Silverman

Yeah, so I want to take this question in a slightly different way, but bear with me, because I'm coming back to answer it. So, what has been interesting, and we've talked about this on the podcast before, as that the market has been this paddling duck. When you look at average single stock implied volatility relative to index, the spread could not be wider. It's just historically at wides. Essentially, this duck is really calm on the surface, index vol is really calm, but underneath those, again, those duck feet paddling furiously. Why, why do I bring this back to software? Because some of the zigging and the zagging that has happened has been trades like semis versus software, right? So one's been zigging, the other has been zagging. Again, you go back to that index level volatility, that's why we're getting these sub-20s fixes. However, because we're seeing signs of life in IGV, the other thing this implies is things are kind of going a little bit in the same direction, right? And I just want to address one point, which is one thing that could take this market down, it doesn't have to be some finite event, it doesn't have to be geopolitical, it could simply be the reflation of correlation. So correlation again has been massively low. It's helped these dispersion trades, which has to some degree made the market structure of those trades very crowded. However, we saw an instance of this earlier in the year where that correlation started to rip up, and that can just make funds have to go to the exit quickly, so it can just be a liquidity event. The second thing I would say about that, specific to software, is you are starting to see intra-sector dispersion within it. So, essentially, when we look at the vols, there are vol winners and there are vol losers, where the skew is showing bearish sentiment on some but bullish sentiment on others. And what I think is fascinating about that is, we had done a different study, but trying to map it to software, and to say, simple question: during the rise of the internet, there was obviously a lot of displacement. How did the market start to think in price options volatility when there was that terminal value risk? And the answer was not ‘everything got disrupted immediately.’ Actually, there are some winners, and then there were losers, but even those losers, a lot of them became M&A takeouts. So, two points here, the first is when that zigging and the zagging just starts to become zagging, that has implications to correlation, which has implications to index volatility, but also has major implications to people who are crowded in this trade that has always been betting that that duck keeps paddling, and the second aspect of that is it not entirely clear as the market starts to differentiate winners and losers that we will not continue to see signs of life in something like software.

Callie Simpkins

So helpful. I think we've given investors a lot to think about, and you all have been extremely helpful in navigating these crazy times. Last thing, Amy, you recently were at a lunch with Mark Carney. Maybe we end on just some high-level takeaways from that lunch. What, what did you take from that?

Amy Wu Silverman

What Prime Minister Carney said that I thought was so interesting, is he was asked by the moderator, ‘like, look, given everything that's going on with essentially middle powers having to invest more in their own defense,’ which is kind of an echo to what he said in Davos, ‘what do you think that means for inflation,’ and he was very clear, just one line, he says, 'Look, I think inflation is going higher. I think ultimately when you look at the tectonic shifts, when you look at de-globalization, and you look at the fact that defense is something that each country needs to be x percent of GDP for itself, that just means there's going to be more inflation. And I'll just harken back to another lunch that Lori and I attended with General Petraeus, where he made very similar comments, more from the perspective of warfare, and about how just, you think about modern warfare changing because of AI and drones, and how that in some way could put all countries on a slightly more equal playing field, which to some degree is quite dangerous.

Lori Calvasina

Lori Calvasina

Thanks for moderating.

Callie Simpkins

Yeah, it was great.

Amy Wu Silverman

Thank you.

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