Today’s stock market discussions are dominated by structural dynamics, index machinations, and mechanical flows, just as World Cup chatter is obsessed with referee decisions and bracket configurations. Perhaps this can occur when the match on the field reaches a comparable level of information saturation and competitiveness, and external factors appear to be the decisive factor in determining the outcome. That’s why we often hear about SpaceX’s sudden jump into the Nasdaq 100 index in the weeks after its IPO, even though the move created only a small amount of buying pressure on the stock compared to the company’s massive daily trading volume. (This is a lesson investors seem to be learning over and over again. Tesla stock soared 70% in the month before joining the S&P 500 in December 2020. Since then, the stock has lagged the index and remains below its November 2021 price peak.) Elsewhere, we note Wells Fargo equity strategist Oson Kwon saying $20 billion could come in bullish input from “Trump accounts” created for children. This summer’s market despite this volume representing less than 3% of stock ETF intake year-to-date. We cannot escape reports that OpenAI and perhaps other AI developers have transferred shares to the US government, ostensibly as a way to secure political favor and allow the public to benefit from future price gains. Never mind concerns about how it might distort market efforts to handicap the AI leadership race. And online brokerage Robinhood and others are focusing their new product efforts on perpetual crypto futures, “tokenized” trading in U.S. stocks, and predictive market gambling — new ways to leverage existing and ephemeral assets rather than ways to capitalize and own productive companies. In case you’re wondering, yes, ETF sponsors have already applied to offer “income” funds that track each of OpenAI and Anthropic, layered with covered call strategies, months before both companies go public. Finally, the amount of attention paid to “key levels” in an index that exacerbates or suppresses further price movement through pre-arranged option hedging operations by Wall Street dealers far outweighs the role such activity plays in manipulating prices beyond the daily time frame. So why focus on the package rather than what’s inside the market? Drawdowns are ‘faster and deeper’ First, sources of supply and demand for stocks that are not mechanical, forced, or price-dependent have always been of interest to people. I went back to the decade after the 1987 crash, when “program trading” was the all-purpose excuse for sudden market fluctuations, replaced by a hyper-focused focus on high-frequency trading and “algos.” In an inherently mysterious market full of noise and unclear causal relationships, investors like to look for ghosts in the machine. A combination of genuine technical factors, systematic rules-based strategies, late bull market performance seeking, the proliferation of leveraged instruments, and pure suspicion are amplifying the interest in this type of thing. Tony Pasquariello, head of hedge fund coverage at Goldman Sachs, said the recent height of the momentum race is partly a matter of the tools used: “As a measure of risk appetite, the volume of U.S.-listed leveraged ETFs is several times higher than it has been in recent years (and it’s certainly felt in the day-to-day price action).” Here’s a quote from Morgan Stanley’s Equity Trading Desk on Monday that typically frames the relevant tactical thrust: “Just as the pace of change is accelerating, momentum drawdowns are becoming faster and more severe. …Last week was marked by seasonal headwinds receding dramatically, with TMT momentum on track for its worst month since the early 2000s, after recording its worst day ever on Friday. Additionally, Thursday ranked as the largest day of positive net decline.” Among the beneficiaries of AI technology, the broad AI (long/short) ratio remains at a five-year low, with short gamma becoming the primary risk for price movements close to -$16 billion/1% (its dynamic and systematic Assuming SPX’s realized volume stays around 15%, it will be a +6-8 billion buyer of global equities next week due to the cushioning effect of its strategic strategy.”Gamers will play the game no matter what. In the current market regime, where the 500 Index regularly moves in the opposite direction to the majority of its constituents, understanding the subsurface influences is almost mandatory, according to the CBOE. Never before have the performance and volatility of the 500 stocks (VIXEQ) been so high compared to the subdued measurements of the index itself (VIX). The core benchmarks of the US stock market and the overall investment strategy (momentum, performance revisions, equal value) have been overtaken by corporate megatrends (AI capital spending), and the daily movements of the S&P 500 have little to do with the experience of the majority of its members or the rhythm of economic fundamentals. The crowding into the high-momentum memory chip subsector in the quarter was extreme and widely publicized. This group consumes most of the oxygen within the technology, and the hyperscaler stocks that pay for all the hardware are struggling to compete. The suspense heading into July centers on whether the semifinals can be cooled down and reset without a nasty liquidation that destabilizes the rest of the tape. So far, things are going as expected, but nothing has really been resolved, although the Philadelphia Semiconductor Index fell 15% in about 10 days before rebounding slightly on Monday. A somewhat deliberate rotation into the market got many investors excited about the much-needed “expansion” of the market. Micron Technology shares remain well below their previous highs before surpassing last month’s impressive gains, while Samsung shares sold off overnight following similarly impressive results. The idea that they reached the interim top as a result in the semi-finals cannot be disproved, at least not yet. MU YTD Mountain Micron Year-to-date As many market participants cheered loudly and claimed to have been bullish on healthcare and insurance stocks all along, the S&P 500 index rose 2% to a new high, while the sub-composite index rose 15%. On Monday, the Nasdaq 100 rallied 1.5% and the weighted S&P was flat, marking another reversal in what New York magazine called a “backlash to a pullback.”The back-and-forth is static, but the composition of the index makes it difficult to see how to ease the conflict between capital investors and vendors to benefit passive investors. While semi-stocks make up 18% of the S&P 500, the four hyperscalers (Microsoft, Alphabet, Amazon, and Meta) collectively account for 16%. Part of the focus on non-fundamental flows and structural factors reflects a fairly quiet macro backdrop in which short-term economic trends are no longer a primary driver of investor attitudes or corporate earnings. U.S. real GDP continues to hover around 2%. The Fed has kept policy unchanged for much of the year and is likely to continue doing so in the coming months. The 10-year US Treasury yield has been in a narrow range for two years. Oil prices soared as the US-Iran conflict erupted, but they essentially reversed within five months. During that time, earnings forecasts have been primarily, but not exclusively, driven by AI. It’s spiking because of equipment bottlenecks, which more than covers the fundamentals. There’s not a lot of low-hanging fruit for the bears to feast on when oil prices are down 40%, inflation indicators are probably at their peak, and the federal government is still running a deficit of 6% of GDP. None of that eliminates some of the erratic flows and structural vulnerabilities that everyone is eyeing to cause some turbulence over the summer.
