Welcome to Zaps, Friktion’s DAO Contributor driven Market Notes covering the latest market developments, implications, and opportunities. Thanks to JP, Vicinal, Marco, Pizza, Lawrencium, and Leonardo!
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1. Macro + Rates
Equity Positioning Declined Materially, Leaving a Positive Setup in its Wake
- The prior week (ending December 3) saw the sharpest weekly decline in discretionary investor equity positioning since the March 2020 sell-off.
- Consolidated equity positioning among all investor cohorts that we track weekly fell from near the top of its historical range to neutral, the lowest level this year.
- The slight Fed pivot (to increase the pace of tapering its asset purchases) and the emergence of the Omicron variant drove the reduction in positioning. Positioning tends to be a contrary indicator; as positioning gets heavy, the chance of a reversal increases, and vice versa.
Risk Assets to Remain Supported by Negative Real Interest Rates
- Real interest rates remain in negative territory and the severe scarcity of growth assets persists.
- Interest rates at zero with 6% headline inflation are much more stimulating than interest rates at zero when inflation is running at 1% (the penalty of holding cash is greater when inflation is higher and rates remain unchanged)
- Year-to-date U.S. ETF inflows have been highly concentrated within cyclicals, financials, and value stocks; this may represent a crowded consensus reflation trade that may be closer to its end than its beginning.
Headline Inflation hit a 39-year high in November
- Home prices remain at or near historical highs, which feeds into the cost of rent / shelter in CPI calculations — home price increases are likely to see a structural tailwind from increased migration to the suburbs amidst historically low housing supply.
- Services prices excluding energy services rose 0.4% in November for the second straight month, pushing the 3-month inflation rate to 4.3%. Goods prices are likely to fall from the high levels seen in early 2021. Meanwhile, services prices may balance out this drop, keeping inflation rates at higher levels than we have experienced over the past decade.
2. Crypto Assets
- Violent sell off to start the month across assets (L1s + DeFi). Major news this week included the senate hearings as well as US CPI data, both of which provided some temporary optimism that was immediately crushed by short-term bears.
- This is reflected in the crypto vol markets, with short-term skew (25d put-call) being significantly more negative, while it is mostly flat for longer-dated contracts. Front-end implied volatility (IV) is trading steadily with 1-week IV at 78%, a premium of 5% over realized volatility (RV). 1-month ATM IV trades at 86% vs RV 69%. The situation is similar with ETH, where 1-month ATM IV trades at 102% vs RV 86%. (Genesis Trading commentary)
- Current term structure of BTC and ETH futures also support this, with effective APYs essentially flat leading into the end of the year but yielding a decent 8–9% for contracts expiring in March. All these continue to point to short-term bearishness, especially with people selling for tax-related purposes leading into the year end, but cautious medium-term bullishness. (although one theory for explaining the yields seen in the March contracts for BTC and ETH could be due to demand from ETFs due the futures rolling).
- US senate hearing for the crypto CEOs went surprisingly better than expected and the senators were not as critical of the industry. Possibly could be due to the huge donations of these crypto companies as well as talks of the setting up of a PAC for crypto in the US.
- Options & Volatility update:
- Genesis Trading released their November 2021 Market Note
https://genesistrading.com/wp-content/uploads/2021/12/Genesis-Market-Monthly-November-2021-1.pdf
DeFi — what caught our eye?
- Podcast of the Week: Blockworks’ Jason Yanowitz and Santiago Roel Santos host Jeremy Allaire, CEO and Co-Founder of Circle, to discuss stablecoins, yields, and the future of USDC
- Joey from Fei Labs shared his learnings on DAO governance best practices
- Deep dive into DeFi Options Vaults from QCP Capital, a leading options trading firm and Friktion partner
- Badger Exploit technical post-mortem
- Overview of Solana network congestion this week
- AscendEX hot-wallets hacked for $78M
FX and Rates
- Hectic past couple of weeks with Omicron, Powell and Evergrande (again) grabbing headlines. With that all said, you wouldn’t have missed much comparing levels m-o-m as the laggard FX market remains largely within familiar ranges.
- Curves have been quick to revert from height of the Omicron panic and currently relatively flattish out to 1y, respecting the upcoming trio of FOMC, ECB, BOE Central Bank meetings, but one has to wonder if the hawkish reaction to current inflation will subside/recede as the data turns (commodities have already shown the way, data to follow), and FX will again follow dutifully and rather uninterestingly it seems.
- We came from a goldilocks era of recovering growth, low rates, low inflation but that time has passed and vols will sustain a higher level compared to half a year back, make no mistake though it doesn’t feel like this FX market will runaway quickly, so directional play via premium limiting strategies and fading extremes in vol moves remain in favor.
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