January CPI Setting the Stage for Potential “VIXplosion” and Flash Crash

Stocks took a small step up on Monday, building on their gains after the S&P 500 jumped above 5,000 for the first time on Friday. The S&P went up by 0.3% and the Dow wasn’t far behind with a 0.5% increase. Meanwhile, the tech-heavy Nasdaq Composite climbed 0.3%, showing that tech stocks still have some juice left.

Nvidia sprinted ahead again with a 2% increase on the morning to set another record. British semiconductor powerhouse Arm wasn’t about to be left in the dust either, as it soared to new heights, continuing its winning streak from last week.

The market’s mood has been pretty upbeat, thanks to some surprisingly good news from the corporate world. Big tech companies, in particular, have been hogging the spotlight. Now, everyone’s waiting with bated breath for the next set of earnings reports. There are still a few big names on the list, including John Deere, Coca-Cola, Airbnb, and Kraft Heinz, but with tech out of the way, the next few reports shouldn’t be too market-tilting.

But that’s not all; the January Consumer Price Index (CPI) report comes out on Tuesday. The CPI could spoil the fun of the last few sessions if it clocks in hotter than expected. Rising inflation would undoubtedly dent sentiment, especially after megacap tech earnings beat estimates. This would cause yields to tumble while spiking volatility, potentially plunging the indexes into a sharp selloff.

Even the folks at Goldman are waving a red flag, saying “We are seeing elevated risk of a momentum reversal,” in a weekend note to clients, pointing out that things like Quality, Mega Cap versus Non-Profitable Tech, and HF VIP versus Most Short are starting to show cracks. The bank added that “you don’t want to be on the wrong side during a momentum crash.”

And while no one’s outright yelling “crash ahead,” the S&P skew’s recent spike to levels not seen since just before the Volmageddon event in 2018 has eyebrows raised. This was when the VIX went on a wild ride from 14 to 40 in no time flat. Amid this backdrop of what feels like bubble territory and a market too cool to care, Goldman trader Matthieu Martal drops a note. He says, “US tech going parabolic and everyone in the same trades” means, although they’re generally positive, the current run in equities seems a bit overdone. They’re leaning towards more unloved stocks with sensible price tags.

So, Goldman’s strategy is to steer clear of the big tech and high-quality stocks for now due to the risk of a momentum downturn and too many folks in the same boat. They’re eyeing up the underdogs and small caps that might benefit from inflation getting back to normal.

The note read:

“To quote a client, you only want to be long vol one in six years and the beginning of a cutting cycle typically bides well for equities. Reflationary risks could be overlooked but you would need a catalyst to de-rail the goldilocks narrative in our view.”

In other words, if inflation ticks higher again, all bets are off for how low stocks could go in the short term.

Goldman’s observations are pretty clear: the investment world is all in, with data showing everyone’s doubling down on the same bets. US tech, in particular, has seen a buying frenzy, making it the popular kid on the block. But this popularity comes with its risks. A little nudge could cause a big squeeze, especially with all the action around cryptocurrencies and meme stocks. They’ve noticed a trend where the usual winners are starting to lose their shine, suggesting that the easy money might not be so easy anymore.

The excitement around US equities, reminiscent of the dot-com bubble vibes, is making some wonder if this party can keep going. There’s a lot of talk about momentum and crowded trades getting too cozy, which could spell trouble. History has shown us that when things look too good, a correction of 25-30% in overvalued areas isn’t out of the question.

But it’s not all doom and gloom. Strong earnings and a sturdy consumer base are keeping hopes of a soft landing alive. Luxury goods, for example, are still in demand, painting a picture of an economy that’s not ready to slow down just yet. However, there are some mixed signals across different markets, hinting that not everything is as rosy as it seems. The consensus on inflation cooling off is strong, but if it starts to pick up again, that could be the curveball no one saw coming.

And if Tuesday’s CPI numbers are too hot for comfort, that curveball could hit bulls right in the face.


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