Being glued to crypto news this week meant missing adventures in regular markets that while lacking the same high drama, made up for it in terms of money at stake.
In case you missed it, stock and bond traders spent the last five days still caught in the thrall of an event that may be hard to recall for people mesmerized by the FTX.com collapse: Nov. 10’s inflation report, which ignited a short squeeze among traders expecting a worse number. Reverberations continued to be felt in terms of positioning, trading in derivatives and probably also in wrongly prepared portfolios.
As usual in 2022, the biggest venue of impact was the US stock options market, where trading volumes are smashing records as investors of all stripes rush into short-dated contracts to catch up. It’s creating snags for what had been billed as the great inflation trade, with the mighty dollar losing luster and technology shares reclaiming their long-lost leadership, at least briefly.
The recalibration was prompted when a soft print on consumer prices triggered a reset of the perceived path for Federal Reserve monetary policy. Exacerbating it are money managers who had cut equity exposure to the bone during the bear market and found themselves caught out. With almost everyone sitting on the same side of the trade and exiting at once, an already-turbulent market got weirder.
“Crypto is just part of a broader mosaic of an almost dysfunctional market,” Doug Fincher, hedge fund manager of Ionic Capital Management, said by phone. “Not to be cynical, but look at CPI last Thursday. It was two basis points better than expected, and the market exploded. There’s a massive amount of technical factor rotation. There’s just a lot of crosscurrents in a really volatile, strange market.”
The trend abated some during the week, with the S&P 500 closing lower over the period. Short-term Treasury yields regained some ground and the dollar edged higher as Fed officials reiterated their intention to keep raising rates.
Still, whether inflation has peaked is up for debate. There won’t be another reading for more than three weeks, and investors and policy makers alike have misjudged price trends since the pandemic hit. With data mostly coming in ahead of expectations this year, everyone from currency traders to bond investors were bracing for another big inflation number last week.
When it didn’t pan out, a cascade of unwinding ensued. The dollar, darling asset of the inflation trade, is losing momentum. Down more than 4% in November, the US currency is poised for its worst month in two years. Two-year Treasuries, where large speculators built up record short positions before the CPI report, saw a rally that pushed yields down 25 basis points when it was released, the most in more than a decade.
Tech stocks, among the biggest casualties during the Fed’s aggressive inflation-fighting campaign, got a respite. Up more than 9% since the day before the CPI data, the industry has beaten all other major groups in the S&P 500, in a partial reversal of dismal returns earlier this year.
“These things are certainly bound to happen at around key critical junctures in economic and monetary policy, which is where we’re at -- the Fed shifting from raising rates toward more of a deceleration in terms of hikes,” said Layla Royer, a senior equity derivatives salesperson at Citadel Securities. “It is a significant shift.”