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Hey There Income Hunter,
The market continued to trade in a tight range on Monday as broad market index option positioning remained balanced.
The tight range creates a “coiling” of energy, which awaits a catalyst to spark an explosion.
The Cboe put/call ratio below is helpful in deciphering whether new positioning is bullish or bearish …
As you can see, the ratio was near the top of the range prior to the last Fed meeting on March 16. It quickly turned, however, as Jerome Powell stuck with the 25 basis point hike instead of 50 that Jim Bullard, the Fed president of St. Louis, was pulling for.
Since then, the ratio has bounced back and sits in the middle of the range, but there are plenty of landmines that could ignite a new round of volatility …
Today, we’ll look at the signposts to watch for that could trigger an explosive move toward profits.
Russian Default on $2.2 Billion Debt Payment
Last week investors breathed a sigh of relief after the Russian government made a $117 million interest payment on its foreign debt.
However, on April 4 a much bigger payment comes due to the tune of $2.2 billion.
I do not think Russia will pony up.
Russia, of course, is offering to pay in rubles. Nice try, but that is similar to defaulting based on the Russian economy – and the contracts do not allow any substitution for dollars anyway.
This is a serious issue and it is one week away. The last time Russia defaulted on its debt was in 1998 and the financial system almost collapsed …
Long Term Capital Management (LTCM) was a large hedge fund that had massive positions in risky bonds, including Russian securities. Many of their brokers copied their positioning because they had been very successful for years and the failure ignited a daisy chain of defaults on many of the counterparties involved in the transactions.
The problem with trades that are not on exchange is when things go bad they can cause a domino effect and systemic risk that is hard to unwind.
Russia is granted a 30-day grace period, but the headline alone will spike vol. Consider holding a long VIX call spread into next week.
Corporate Bond Debt Default
Bond rates have risen so quickly in such a short period of time that their drawdown is the third worst in 100 years.
That is not good for a financial system that has $60 trillion in debt that needs to be refinanced as it matures.
The corporate bond market alone has $11 trillion in debt outstanding and many of these companies have had a cakewalk since the Fed held rates at zero for the past couple of years.
The good times are over for these companies … because as Warren Buffet once said, only when the tide goes out do you discover who has been swimming naked.
Well, now rates are higher by over 1% and that increase in interest payments on the debt could push many companies into insolvency.
The graph below illustrates diverging trends between the SPDR High Yield ETF (TIcker; JNK) and the S&P 500 index (Ticker: SPX).
In 2008 JNK traded down to $76 as companies defaulted due to the mortgage debt crisis. Today they are trading at $102.
JNK and the iShares High Yield Corporate Bond ETF (Ticker: HYG) are prime candidates to short on rallies.
Learn how in my Power Income Trader program.
Bring It Home
The call spreads and shorts I mentioned are two strategies that can work in the short-term. And there will be many other excellent low risk/high reward trades in the weeks ahead as high inflation and slow growth (stagflation) dominate the global economy.
Stagflation is the most difficult economic environment for central banks to manage today because they are not equipped to raise interest rates to fight it when debt is so high.
The coming weeks and months are critical as we transition to a tightening cycle followed by a resumption of money printing around the world.
Live and Trade With Passion My Friend,
Griff
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