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Positioning Across Stocks, Oil, Volatility Leverage Structural Risk

Positioning Across Stocks, Oil, Volatility Leverage Structural Risk

2017-02-25 03:58:00
John Kicklighter, Chief Strategist

Talking Points:

• While extremes on benchmarks like the S&P 500 and low expected returns flash caution, positioning is the real risk

• Shorter duration speculators are more active now, but duration investors refuse to throttle back despite risk-reward

• We look at positioning in equity and Treasury ETFs; leverage on the NYSE; oil, Russell 2000, VIX spec futures positions

See what live coverage is scheduled to cover key event risk for the FX and capital markets on the DailyFX Webinar Calendar.

Animal spirits have haunted the markets for some time. Despite glaring fundamental questions and frequently voiced skepticism across the financial spectrum, speculative benchmarks like the S&P 500 have continued to win record highs on a weekly basis. Motivation for this extension can vary from fundamental to technical, economic to opportunistic. Justification can come in different forms and stretch the imagination, but participation is an objective measure of performance. How many market participants are there in a market? What is the activity level of the active market participant? Is there conviction in exposure given the fundamental discrepancy on display? Answers to these questions, will give us a better understanding of the collective's motivations.

There is a remarkable level of agreement across the financial spectrum (from audacious speculator to cautious journalist) that sentiment has reached well beyond the bounds of reasonable pricing. Given the historically-low level of return in the financial system, the focus is increasingly shifting away from the 'income' stream of return to capital gains. That dissuades the long-term, buy-and-hold investor and attracts the short-term speculator. Such a focus creates an unstable backdrop for the market at large and leverages the sensitivity to developments that would shake 'traders' - namely volatility. We can see the shift in balance looking at the various measurers of positioning.

The use of leverage is a strong indicator of what type of trader holds the most influence. According to the NYSE's data, the use of leverage has extended well beyond the Dot-com or Subprime Real Estate bubbles over the past two decades. Beyond that, capital flows into and out of increasingly-popular ETF speaks to an appetite for certain assets. For months, capital has been steadily withdrawn from the equity-centered assets. In the Commitment of Traders (COT) figures from the CFTC, we find another facet of the same structural wall: an unstable appetite for stretched markets. The Russell 2000 contract has seen incredible volatility in exposure that contracts dramatically to price. Crude oil exposure has hit a record speculative high even as the commodity itself has struggled to make gains beyond 55. From VIX futures, we have seen the extreme reach down the risk spectrum has started to abate - the biggest pullback since the election. What is at stake and what will signal the turn of the tide? We discuss structural positioning as a measure of risk in this weekend Strategy Video.

Positioning Across Stocks, Oil, Volatility Leverage Structural RiskPositioning Across Stocks, Oil, Volatility Leverage Structural Risk

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