Major indices have been pushed higher in recent months by a narrow group of stocks as the passive investment frenzy continues. Most markets are screaming “Fed policy mistake,” but the equity crowd refuses to really listen even after the FOMC bumped rates higher for the fourth time yesterday and discussed balance sheet normalization.
The Fed acted although both employment and inflation have ticked down in recent months.
We saw an article this week in the Wall Street Journal discussing the tremendous profits to be made by shorting VIX (a measure of market volatility) instruments near the all-time lows for that metric. In other words, traders are betting that the extremely complacent stock market will get more complacent. The phrase “picking up pennies in front of speeding freight trains” came to mind.
Major investors are involved in size. It will end when it does, but probably not well.
How can complacency remain so high? Dramas in energy, retail and autos seem to intensify by the day in the U.S. in a clear sign that central banks can not eliminate business and investment risks. Numerous stocks in loathed sectors are getting crushed. In addition, the overall behavior of other markets suggests that equities are in a world of their own.
We think that the risk of possibly crossing the fine line between growth and recession has to be on the radar given the data even as the Fed still seems almost clueless about the enormity of the risks that are stacking up. We guess the FOMC trusts the message of the low VIX, but it only really reflects a baseless faith that the Fed is somehow omnipotent.
We are not on board with the circular logic, particularly when shorting VIX has become a cocktail party discussion.
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