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Dow, VIX, Tesla and Leverage Reflect Greater Risk to the Relentless Bull Market

Dow, VIX, Tesla and Leverage Reflect Greater Risk to the Relentless Bull Market

John Kicklighter, Chief Strategist

Nasdaq 100, Bitcoin and EURUSD Talking Points:

  • Risk appetite continues to stretch the bounds of stability with the tech-heavy Nasdaq leading the traditional US indices, but what about the unconventional cues?
  • Signs of speculative excess such as a record leverage, persistently higher resting rate of VIX and short squeeze in GameStop set the stage for a ill-placed spark
  • Top event risk in the week ahead includes: the IMF economic outlook; US and European 4Q GDP; FOMC rate decision and a Few FAANG earnings – but Tesla figures may be the most loaded
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Risk Taking Continues to Stretch to Extreme Levels

Speculative appetite isn’t exactly an unfamiliar status in the global capital markets. Investing that has transitioned into a chase for momentum is perhaps the core of intention for the past 10 months – if not the past 10 years. However, from this general bias, we have seen an intensity arise that seems to dramatically deemphasize the risk taken in adding exposure at these levels while a sharp focus remains on the capital gains that can be squeezed out of the market. In the recently closed third full week of 2021, we managed to see risk appetite ratchet the intensity up another notch. To be clear, markets don’t have to collapse simply because conviction hits a certain level. Yet, when the rocket cuts out at significantly higher levels, the consequences are far greater. With that in mind, the record highs from the likes of the Dow Jones, S&P 500 and Nasdaq 100 set this past week are an ‘ordinary’ measure at this point. Further concentration seen in the relative performance of the Nasdaq 100 to the blue-chip Dow is perhaps a more incisive reading.

Chart of Nasdaq 100 to Dow Jones Industrial Average Ratio Overlaid with Dow (Daily)

Chart Created on Tradingview Platform

Benchmarks at significant heights – even records – however only accounts for so much of the market’s stretch. The further use of leverage raises the threshold of pain should complacency start to break up. For the financial markets, there isn’t an all encompassing measure of exposure, but there are some fairly good proxies. The use of borrowed funds at the broker level at the NYSE is one such measure. The ‘gearing’ barometer has surged to a new high this past month, but that isn’t the most remarkable consideration here. Rather, the attention this indicator has garnered just this past week may speak to growing doubts. What I will add to the considerable discussion around this figure is that leverage is topped off across the board. In notional terms, the extremes can be registered among consumers, businesses, governments and central banks. Further, there is ‘thematic’ leverage that adds to the concentration in the pursuit of ‘risk’ assets.

Chart of S&P 500 Overlaid with NYSE Broker-Level Leverage

Chart Created by John Kicklighter with Data from NYSE

Though the word ‘bubble’ is perhaps used liberally nowadays – myself included – I will reiterate that you can have an unmoored speculative build up without an insinuation that it has to immediately come to an end. Excess can continue to build until the markets are ready to be consumed by whatever fire tends to be burning at the time of immolation. In the meantime, signs of strain will inevitably arise where the cracks start to show. The reticence in Tesla shares’ epic climb and the trip from Bitcoin this past week have been one point of strain. The VIX’s extended run above its historical average at 20 (231 trading days) is another measure for which I’ve kept track. More unique is the extraordinary volatility of Gamestop. The otherwise non-macro, nondescript stock surged in an epic 260 percent charge over 10 days on what was essentially a short squeeze.

Chart of Gamestop Shares and 10-Day Rate of Change (Daily)

Chart Created on Tradingview Platform

Top Fundamental Event Risk for the Week May Not Be What You Expect…Or Maybe It Is

With such a hazardous backdrop for markets, the dense calendar for event risk in the coming week could look particularly nefarious, but the penchant for obliviousness suggests a critical escalation would still register as a ‘grey swan’. In general, there are a number of general themes with which individual event risk will fit into. Growth course amendments are perhaps the most heavily representative category, while earnings, sentiment surveys, inflation, employment and trade statistics are all on tap. Some consideration to actual market movement must go to the market’s willingness to absorb critical insight – meaning practical impact likely comes from a market already moving and thereby accelerated rather than catalyzed. Further, anticipation for ‘the next update’ in a dense docket could just as ready curb the impact to an immediate release. If looking for the peak of potential, I would consider it to be the period between Tuesday’s New York open to Wednesday’s New York close.

Table of Major Economic Events

Table Created by John Kicklighter

Refining the potential down even further to a singular event, I would consider Tesla’s earnings due immediately after the close of the US trading session on Wednesday to be the most weighty listing. There are quite of few corporate updates of merit to track over the week. That said, the run just after 21:00 GMT that day accounts for the greatest overall market cap. In addition to the auto-manufacturer’s figures, Apple and Facebook will also report. Yet, it is TSLA that looms largest for me given the sheer speculative authority the stock has represented these past six months in particular. An approximate 250 percent rally over that period has helped push its market cap to one of the largest values in the world. That simmering fame escalating to unprecedented celebrity will pull speculative capital like a bug light. Besting expectations here could radiate through the Nasdaq and beyond; but a disappointment could cause a critical rift.

Chart of Tesla, Apple and Facebook (Daily)

Chart Created on Tradingview Platform

The Other Systemic Themes with Market Moving Potential

While it is best to be practical about what markets will prioritize even if it falls outside textbook expectations, I always keep track of systemic matters that can take control if undercurrents regain control. Therefore, general economic health will be a thread to monitor closely. While the official 4Q government GDP updates from the United States, Germany, France, Spain, Hong Kong and Mexico are the most recognizable material on tap they come at the very end of the week. That is a limited window to rouse markets from deep complacency. More timely and global in scope would be Tuesday’s release of the newest growth forecasts from the IMF. The World Economic Outlook will continue to define the views of the pandemic blight.

Chart of Major Economy PMIs (Monthly)

Chart Created by John Kicklighter with Data from Markit IHS

While economic data and forecasts may struggle to rouse the deep well of general sentiment, it may still generate significant volatility on a relative basis. This past Friday’s January PMIs drew a notable contrast in bearing between the United States’ figure which reached within a multi-year high clip while the United Kingdom’s reading dropped sharply amid the latest shutdown. GBPUSD responded not with a full breakdown, but a reasonable swing. This pair’s response to key data is a good example of how potential should be filtered through general conditions.

Chart of GBPUSD with 20-Day Historical Range (Daily)

Chart Created on Tradingview Platform

Finally, a word to a subject that will noticeably slide in scope but will pick up intensity in return, monetary policy will find its symbolic leader providing guidance. The Federal Open Market Committee (FOMC or Fed) weighs at 19:00 GMT with its official decision and statement while the group’s Chairman will give his press conference a half hour later. At its last check in on December 16th, the central bank held course and offered its updated growth/employment/inflation/rates forecasts. With the Biden Administration pushing a substantial fiscal stimulus escalation, there is a strong motivation towards ‘wait and see’ when serious doubts over whether these massive infusions can ultimately keep everything aloft – economy and markets.

Chart of Major Central Banks’ Balance Sheets in Billions of Dollars (Monthly)

Chart Created by John Kicklighter with Data from Bloomberg Terminal

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