Even though markets appear to remain firmly on the bullish bandwagon, we maintain our Sep24 440 Puts on the QQQ and propose Jan25 35 calls on the VIX as a tail risk hedge in 2H24 due to the following:
- Both the S&P 500 and Nasdaq are trading at overbought levels, with bearish divergence appearing on both shorter and longer time frames
- Equity flows are spiking at levels that precede market sell offs while Long Only institutional positioning remains extended. Hedge funds deleverage is continuing, pointing to a more cautious stance
- Downside protection and implied correlations remain at persistently depressed levels
- Volatility is in a seasonally weak period, which should increase in the 2H – particularly with seasonal equity market weakness in August and September
- The liquidity impulse continues to point to market weakness in the short term
- Rising unemployment validates concerns on what was thought to be a strong job market
- Depletion of excess pandemic savings is reflected in the underperformance of Restaurants and Trucking stocks
- Rising net charge-offs at US Banks, as shown in 2Q24 earnings, mirrors the rise in consumer delinquency rates
- Although the fight against inflation appears to have been won in the short term, justifying rate cuts, signs of persistent prices in the medium turn remain, posing risks of a policy mistake from cutting too early
- The weakening consumer and job markets have helped the market remain in risk-on mode in anticipation of rate cuts, but these cuts have rarely been a good omen for equities, even if a boost for volatility
- The recent assassination attempt on former-president Trump has significantly increased his odds of him winning the presidential race, and could be a factor adding to further polarisation ahead of the elections, increasing the odds of political instability
Key events for the week are the ECB meeting on Thursday, with expectations of a hold, and the ECB bank lending survey on Tuesday. We also get US retail sales tomorrow (16/7), which are expected to be of importance following weakness seen in several retail stocks. Even though not much progress is anticipated, China's Third Plenum, running from today until Thursday will focus on potential policies targeting weakening demand and the property sector.