The Macro Trading Floor transcript – 12 July 2024

This is a transcript of The Macro Trading Floor podcast featuring Brent Donnelly and Alfonso Peccatiello.

To listen to the podcast and see the show notes, go to Podcasts.

The Macro Trading Floor 12 July 2024

Alf: Hi, everybody, and welcome back to the Macro Trading Floor. This is Alf speaking. We haven’t gone nowhere. We are just an Italian and a Canadian guy that decided to take a few weeks off in summer. Calm down, guys. We’re still here. Hey, Brent, how are you doing?

Brent: Hey, Alf. Happy Canada Day. Happy 4th of July. Happy everything to everybody.

Alf: There you go. Brent is always an optimist, as you know. So today we’re going to have a full session, two weeks without the microtrading floor, so people are in withdrawal from their drug, so let’s give them the drug back, Brent. So, today we’re going to talk about bond markets, US selections, the dollar, and a bunch of risk management topics, so that you can see how Brent and I can Try not to lose too much money, basically, which is rule number one to survive in this game.

So CPI was released yesterday. So actually today we are recording today to be released on Friday, the 12th of July. And then just reading the figure, Brent, 0. 06 percent month on month core CPI, 0. 06. Super core inflation, negative month on month. And housing inflation 0. 2, which is basically the same level it was sprinting in 2019, pre pandemic.

And finally, core inflation is annualizing now on a three month basis at basically 2%. And on a six month basis at 3%. Very, very, very friendly. So what should we say here? Hippie Pura, the Fed, and Powell is throwing a party. What do we make on market price? And you know, at the end, we trade against consensus.

So what do we make of all of this?

Brent: So the interesting thing, I think with the inflation and with Powell’s speaking his testimony over the last couple of days is that I feel like people are just so bored of the Fed dynamic of like, we’re going to cut and it’s going to be about four months from now.

And that’s kind of been the case since like last November is that the cuts are always about four months out. That I think it feels a little bit like the boy who cried wolf type of situation. And then the data comes back. And they don’t cut. However, I think actually that’s wrong this time. I think they, they will cut simply because this is not like one month here, one month there of data.

Like you can look all around the world. Inflation is coming down extremely quickly, like even in the UK where services inflation is still very high. You know, headline inflation there is 2%. So I feel like you have such a consistent picture in both the labor force and in inflation that highly restrictive policies definitely no longer required.

I actually was curious what you think, cause we haven’t talked about this. Do you think that July is a total zero for, for the fed? Or do you think there’s like some part of the fed where they go, okay, we got what we needed. And things look pretty good and there’s no point screwing around because. If we want to cut more, we might as well do 25 now.

And then that gives us more optionality later on. Or do you think July is just a zero because it’s like 20 days from now?

Alf: Odds, not zero. I never liked selling zero odds. It’s not smart in the first place. I would say. Let’s short it at zero. That’s very much no, but I don’t think the odds are high or reasonably high.

I mean, I wouldn’t put them at about maybe 20 percent or something like that, but it’s an out of the money idea, Brent. I mean, in September they have, you know, a set of forecast, they have more data points and many, many Fed speakers have spoken about the fact that they want. Turn on a dime and a dime name is like one or two months of data.

They would like to see a little bit more. So I think they’ll just build up in the press conference, a telegraph cut for September. I think that’s the base case scenario. What do you think?

Brent: Yeah, I guess that makes sense. Also, if you look at what the bank of England was saying, I would have thought that the bank of England would have got way more dovish.

Like pill spoke this week and I was expecting him to be quite dovish given that a lot of the things that they’re looking at including unemployment rates look very similar to the U S but there’s one big difference in the, in the UK is that services inflation is still very high. So maybe that makes sense that Essentially, I guess a theme this whole time has been that the market keeps expecting all these cuts and they’re slow playing it and they’re playing it much more slowly than, than people thought, I guess the main reason being that they just have no idea what neutral is and, you know, neither do you and neither do I.

So the risk is always going to be very two sided. And I think that was what Powell was saying. But I think that was kind of the interesting thing. And Nick Tim Oreos pointed it out as well, is that it’s much, much more two sided now, like before they were just worried about inflation. Now they’re kind of worried, like, eh, are we staying restrictive too long?

And then we’re going to actually create deflation, like with super core printing negative two months in a row. For example, and then housing kind of maybe the legs were just a bit longer than we thought. It’s a two way story now to me especially with unemployment rising and almost triggering the SOM indicator and, and it’s, like I said, it’s not just the U S but things are kind of look pretty consistent around the world where, you know, you have variety across different economies, but.

In general, it does seem like the cycle has turned, but then like we’ve always talked about is, is it just a, a soft patch and a dip within this soft landing scenario or is it something worse? And I suppose that’s, what’s going to determine what yields do because 10 year yields haven’t been making this huge triangle for ages and ages and ages.

And we’re getting towards the bottom of that around 4. 1%. So the question is like, Is the data going to be bad enough to justify a real move down like recessionary move back to three or something like that, or is this just a soft patch and, you know, we’re going to amble along two and a half percent inflation, two and a half percent growth, whatever, and then you can’t, it’s gets a lot harder to justify a huge breakdown in yields.

Alf: Yeah. And I think you’re now touching on the key part, which is. Fine. It’s evident that nominal growth is coming down. I think that there is no exception anymore to the rule wherever you look. But the problem is That if you say now, I want to go long bonds because of that, well, to make money in bonds, you need to beat the forwards, which is bond jargon for, you need to surprise the market dovishly versus what’s already priced, otherwise you will not make money in bonds.

And so if we look at what is priced today, well, sure, we’ll have a look at it. Why not? So the first thing I see is that if I go to the December. So December 2024, Brent, I see two full cuts priced in, so that’s September and December this year, and a 45 percent odds of a cut. Between September and December, which I guess the Fed is meeting in late October or early November or something along the lines of that.

So two full cuts and 50 percent odd of an intra meeting cut. That’s what’s pricing now. So if you say, I want to go long because the Fed’s going to cut, I have bad news for you. The Fed is already priced to cut this year. Then you have 2025, I see a hundred basis point additional cuts. So namely one cut per quarter, right?

So it’s two full cuts, 50 percent chance of a third one this year. And then four full cuts next year, one per quarter. So that’s what you’re looking at the front end. So if you want to make money there at the front end, you have basically to expect a recession, I guess, because how is the Fed going to cut faster than that is they have to go into a meeting.

So they basically have to go also in 2025 in not wait for March, but go in January and then go January and March and then April and then June. And then you can make money in the front end. But as you were saying, like, You only need to expect, expect a recession at that point for the Fed to act this aggressively and cut back to back at every single meeting going forward.

So that’s the front end. And then there is the let’s say the, the, the curve per se. And you know, then you look at terminal rates, let’s say, you know, and so what I do for terminal rates is I look at five year forward. So I look at five year out that funds priced, and that’s 3. 4 percent nominal terms. So the market today expecting five years, the Fed fund to be at 3.

4%. So what do you make of that? Well, nobody knows what mutual rate is, but one thing is to be said, right before the pandemic, three and a half percent, it was supposed to be a high range for, for nominal neutral. So if your expectation is that the world goes back to 2019, then maybe most of the money has to be made in the belly of the curve rather than at the front end.

In general, though. With this type of pricing, you should hardly get excited anymore, I would say.

Brent: Yeah, I think when everything that you just described to me sounds like a trajectory for Fed cuts in a soft landing like 95, that kind of like something in that ballpark. But then if there’s a recession, I mean, geez, they could be cutting 50 in December or 75 in December.

So I feel like the, the money would, yeah, like you said, would be made betting on a recession because it’ll just come, you know, stronger, faster earlier. But I mean, is, are we seeing anything like that? Is there anything that you see under the, under the hood in terms of, you know, employment or consumer spending?

Cause I think one of the big variables that people were trying to get their heads around was. When the excess savings run out and a lot of people think they’ve kind of run out and will the consumer buckle and it doesn’t really feel like that so far. But then if people are starting to lose their jobs and there’s no excess savings and then, you know, then maybe you get a scenario where the consumer actually starts to puke a little bit.

But what do you think about that scenario? Is that a scenario or is it just jobs that matters and people will just keep spending as long as they have jobs?

Alf: Jobs matters in the U. S. You’ll never pass through immediately, right? From higher interest rates to a hit on spending because mortgages have been locked for 30 years fixed and corporates don’t have floating loans that much, right?

With banks. So, what is the pass through? Well, the pass through is the labor market. If you lose your job, then you’re not going to spend any more. But the Sahm Rule is almost there to be triggered, but we should talk about that because the way unemployment rate can go up is not only if labor demand goes back to the floor at zero, but also if there is a ton of labor supply.

If the supply of labor is much, much faster, it’s hard for the private sector to absorb all that supply of labor all at once. Then you might have a situation where it’s a supply driven story. Not only a demand driven story, right? In the US.

Brent: Yea, that’s a really good point because that’s been the key to this whole cycle.

Right. And then also looking at all the old, you know, like the some rule or yield curve or steepening of the yield curve and disinversion, all the stuff that people have kind of used in the past, most of it hasn’t worked very well simply because You know, this economy has no resemblance to the prior 30 years, which were all demand cycles, pretty much all demand cycles, other than like a supply squeeze in oil in 2008 and a few things like that.

But mostly it’s always been about demand. So. There’s probably a scenario where the unemployment rate, like you said, because of immigration and supply post COVID supply and people coming back and all that, the unemployment rate just goes up to 4. 2%. And then just sits there and goes between 3. for a while.

Whereas what we’re used to is always like, I mean, the whole point of the SOM rule is that when the unemployment rate starts going up, it just explodes higher eventually, like it doesn’t, it’s not very noisy, it just goes up and then rips higher. And like I was saying, actually, I think probably your base case almost has to be that this cycle is different and that, that that’s not going to happen because none of those rules, like none of the older rules really apply to this new economy.

Alf: Yeah, I mean, if I really want to be creative and if you want to be negative on the economy, there is always something you can find to be negative about the economy. But the share of permanent job losers steadily goes up. It doesn’t stop going up. It’s steadily goes up. And, you know, if you lose your job and then you can’t find a new one, it’s not a great sign.

And the job market is very hot. Right. Right. Right. So there are a few things you can look at, you know, the, the, the, the cyclical industries haven’t really been hiring a lot over the last six or 12 months, which also makes sense. So a lot of the hiring comes from Healthcare, education, government. So anything that is, you know, government related, fiscal spending related, packages related.

But hey, I mean, those aren’t jobs anyway. Those are people who are going to spend money.

Brent: There’s still jobs. Yeah. Actually, speaking of fiscal, I think one thing that happened that’s pretty important, though, extremely confusing while we were on hiatus there for a couple of weeks is the election stuff, right?

So Biden’s debates. Performance. And now we’re trying to figure out, okay, what does that mean for the democratic nominee? But then more importantly, what does it mean for markets? And just, I’ll just preface this with, I sent out a survey asking people just to fill in a blank text box, answering if Biden drops out, what’s the trade.

And 200 and something people answered, and it was basically 200 and something different answers like dollar up, dollar down, buy China, sell China, buy tech, sell tech. So, generally, I would say when nobody knows what the trade is, There is no trade. But it’s a sharp contrast to 2016 because, you know, whether they were right or wrong, everyone was doing the same thing.

It was, you know, sell Mexico, sell Canada, sell S& P futures, which obviously was a disaster for anyone that did that. But in 2016, there was a clear kind of like Playbook for the election, but there doesn’t really seem to be as much now, but what are you thinking about? Not, not in terms of who’s going to win.

Cause that’s boring, but, but in terms of what, what does it mean for markets, like say Biden drops out or, or Trump wins the election, what, what are you thinking markets wise in those different scenarios?

Alf: I think it’s easier to talk about what happens if Trump wins the election. Probably that’s to me, at least the more clear cut, um, idea that people want to look at as a vol event.

So let’s look at that. Maybe it’s the most, most interesting, perhaps a small anecdote brand a client at a large hedge fund told me a week ago when Biden had that terrible duel with, with Trump. And then Trump’s odds went up and the Ilker, Stephen, et cetera, that they were talking with the pods within the hedge fund.

And everybody was saying, yeah, but have you seen now Vol is up and Trump’s going to win and this. So he simply asked the same question you’re asking. So, so, okay guys, you know, what’s your trade if, if Trump wins, right? See the same answer that you go like dollar up, dollar down, this up, this down. So it’s nobody, nobody knows.

There is no clear consensus. So I’m going to tell you my idea for me, if Trump wins the cleanest expression of this Would be a eel curve, steeper. I think that’s the cleanest expression. And because it comes with a confluence of factors, Trump has been very vocal about wanting to weaken the dollar and cut interest rates because rates are too high.

So he’s gonna try and pressure the fed basically to try and weaken the dollar. And at the same time, it’s going to apply policies which in nature or will be interpreted as potential inflationary by markets. Okay, so there’s going to be a bit of risk premium that gets priced when it comes to forward inflation.

Think of tough sands on immigration. So all the labor supply story we discussed so far, Brent, forget about it, with Trump most likely. So that net immigration flow will stop. That’s which pressures, right? And therefore it can be a bit inflationary. Think of tariffs you know, a bunch of stuff the market I think might interpret those as inflationary.

And so the combination of forcing the Fed to be dovish, or let’s say pressuring the Fed to be dovish, while at the same time applying inflationary policies, it can lead to a curve steepening, right? You just add the risk premium back into the curve. Now for me, that’s the cleanest expression. Much easier to be said than done because we’re in a podcast, like on Twitter, there is no negative carry.

So you can say something and then six months later say, ah, I was right. And then a trader will tell you, yeah, man, but if you run this thing, it’s negative carry for six months. So where is your blood? You have bled for six months. You’re like, no, no blood. I’m on a podcast. So it’s easy to say this. But the last part I’m going to add here is the dollar because I hear a lot of people opine on the dollar and Trump, I think it’s very complicated.

First of all, dollar against what? That’s my question. And so the dollar goes up, sure. Against what? And, and, and people say, I think the most targeted way will be dollar up against Chinese renminbi. It’s probably the most targeted way to do it. But a small reminder from my side, China has between disclosed and undisclosed dollar reserves about 6 trillion, roughly, of dollar assets.

So if China decides they don’t want to weaken the one, I can guarantee the one will not weaken. You’re fighting against the big, big balance sheet of FX reserves, which they might or might not want to use. But it’s definitely the most clean cut expression of the dollar, I guess, if you really want to play it that way.

But for me, it’s steepeners. And for you?

Brent: Yeah, I think the China thing does make sense. It’s difficult to play because it’s so far out, but the one pushback I would say on the reserves thing is that when Trump did the tariffs in 2017, they actually backed off and stopped intervening and dollar China did go up almost exactly the amount that would exactly offset the tariffs.

So I would think that they’re keeping it stable now in order to like minimize how crazy things are going to go if he wins. But I mean, to me, it’s, it’s an obvious trade, but. It’s a hard one to put on just because of, of the long, how far out it is. So I think that trade makes sense. The other trade that, that makes sense to me with Trump is, is bullish crypto because the regulatory stuff has just been really this sort of fly on the ass of crypto for a long time.

And I think Trump will be much more positive. And then right now you have the strange kind of huge divergence. Between tech or semis or whatever you want to look at and crypto because of the flows coming from the release of the funds from Mount Gox and Germany. And I mean, there’s still a ton of, of crypto for them to sell, but that said it’s created this massive wedge between.

Like if you consider crypto to be kind of a tech proxy with some gold like features or something like that, which is what I think of it as, then crypto is very cheap relative to, you know, if you made a little regression model out of NASDAQ and gold and then said, what’s fair value for crypto, it wouldn’t be, or for Bitcoin wouldn’t be 57, 000.

It’d be much higher. So, Given the entry point and then given the pro reg or the pro crypto reg side that I think Trump would bring to me, you know, owning either calls or, or just owning crypto for, for, if you think Trump’s going to win, I think is probably the best trade.

Alf: Yeah, I like the rationale.

Something I’ve been looking at as well lately, upside on crypto. I haven’t looked at options, but I think I should have a look at that. Let’s go back to the dollar if you don’t mind, because that’s your home turf anyway. So we covered about bond market, my home turf for a while. It’s your turn now. So okay.

The dollar, what, what are we supposed to. do now because if macro looks somehow between 1995 and 2019, a mix, I would say of cycles amongst these very friendly, these inflationary environments, then if I recall correctly in 2019, the dollar didn’t really depreciate much despite the Fed pivoting dovish didn’t really do a lot.

Maybe versus the yen. Is it like, do you see ways to play a dollar downside or upside that are pretty much clear cut?

Brent: So the short answer is no. You mentioned late 2019 and I think July 2014 was kind of similar. Like there was nothing all that much going on. It was kind of like a soft lending, everything’s okay kind of environment.

And then same thing with like, Oh, six Oh seven was similar. Very low VIX. And those are three times, those are the three dates that one month Eurodollar vol went below five. And that’s where it is now. So, the real story in FX has been like, think of all the things that we’ve had. Like, we had a point where it looked like the Fed might be able, well, at the start of the year it was recession potentially and cuts.

Then it was like, oh, the Fed might hike. Then, then Macron’s losing in France. And you have like French spreads blowing out and all of these things have happened and BOJ has been doing a few things. MOF intervention. You had a lot of potential catalysts going on, but yet the dollar is just not moving.

And these, this tends to just be when global asset volatility is low and there’s not a lot of divergence between interest rate policies. You get these really crappy periods for FX. And like I said, like mid Oh seven, mid 14 and late 2019 are all examples of that. And those are actually all great times to, to be starting as a macro trader, because that was, those were lows in vol before really huge things happened.

Like Oh, eight was GFC, 2015 was China deval, 2020 was COVID obviously. So to me right now, it’s kind of like. Finding opportunities to be, be like a call option, but without actually buying call options or put options. So finding trades that where you think there’s a decent amount of skew, like hopefully you’ll know it when you see it, when the dollar’s ready to move.

But honestly, like, I don’t, I don’t have a strong bias in the dollar right now. I think that it’s kind of like we’re locked here because there’s just not enough divergence in policies. So you’ll get the zippy little moves. Like Sterling went higher because the bank of England was a bit more hawkish and new Zealand dollar got thumped because the RBNZ was a bit more dovish.

So you’ll get like little pockets of miniature divergence trades, but, but overall, like. The cycles are all so aligned right now that I don’t think there’s really a big trade in the dollar in general.

Alf: Yeah, I think I’m afraid I have to agree with you. Although you said something very nice for me, if you’re right.

These periods of low macro vol, are great periods to get started because then generally there are vol spikes occurring soon after. I’m launching a macro fund, man. So I hope you’re right. Get, get everybody to sleep for the next three to four months. Cause then I need to launch. Okay. Then we can have some fun and I can do some trades. Possible?

Brent: Well, and that’s perfect because generally we, and I think we talked about this on the podcast, the vibe in, in every asset class is that hiring and assets flow in at the peak and then they flow out at the lows. So if you can be gathering assets when macro vol is pretty low, that’s, that’s a good setup because as you know or as everyone probably listening to this knows being a hedge fund manager or running a fund is very path dependent.

You need a good start or, you know, people, people overweight or, and use recency by I have recency bias. So you kind of need a good start. So hopefully the timing will be perfect.

Alf: Thanks, my friend. Wish me luck. There was a, an allocator who said yeah, I really want to do it, but you know, I’m going to watch you for a year and then decide if you’re good.

I said, sorry, sorry, sorry. I don’t follow you. How can you decide if I’m good after a year? It’s all variants. I mean, I could have the best strategy or the worst one in the world actually. And then by pure sheer luck in the first year, I could make it. And then on the basis of that, you will decide. All right.

Sure.

Brent: That’s actually like, it’s way too big of a topic for today’s podcast, but determining skill versus luck in investment managers is, I think, one of the most interesting topics. Like Michael Mauboussin talks about it a lot, but it’s just so, so difficult to determine skill versus luck, even on a five or 10 year track record.

But anyways, that’s a, that’s a subject for another podcast.

Alf: Hey, since we’re talking about risk management and people seem to really enjoy that part of the podcast, before you were talking about the fact that the FX vol is very low and that it’s been hard for your strategies to perform in an environment like this one lately.

So do you want to reflect for a second on what’s happening, but importantly, like, how do we fix a period when your style of trading doesn’t fit markets? I mean, how do you see that? I’m going to tell you my opinion as well.

Brent: Sure. So this is a tricky one. Because it depends a lot on the individual’s circumstances, but in my case, generally, I’m always trading FX. Like 90, at least 90 percent of the time. So, you know, obviously if you have a large diversified fund with many, many strategies, then what I’m saying doesn’t apply. But if you’re trading a specific asset class, then generally like all have sort of six or seven strategies or frameworks that I’m kind of always using, like event trading correlation, all those, the different types of strategies.

And what I always want to be doing is like. Having a good idea of what’s working and what’s not so that I’m not spending too much money on things that aren’t working. And I’m also understanding like, okay, this correlation is working. Why is it working? And then trying to optimize and monetize and leverage that.

But the issue that I’m facing right now is that almost nothing is working. Like none of the stuff that I do really is working like events, correlation, all that. And so. The obvious fix for that would be like, well, why don’t you just put half your assets in carry? But that’s just simply not what I do. So, you know, it’s, it’s not an, not a wrong thing to say, like a well diversified fund would probably have a bunch of strategies that aren’t correlated and the issue that I have.

Is that my trading performances is correlated to volatility. So, and that’s the case generally with like most sort of shorter term traders is the more volatility, the easier it is to make money. That’s why day traders trade the open and the close and stocks more than the rest of the day. And so then what do you do?

Well, you. If you’re already correlated to vol, then you don’t really want to be buying volatility all the time because your, or your, your strategies already correlated to the volatility of the market because it’s just easier to make money when vol is high. So you’re taking wrong way risk if you’re always buying volatility.

So that’s one thing I try to be aware of is like, you can look at Eurodollar vol at 4. 8 and say, wow, that looks cheap. But the problem is if you buy it and it doesn’t realize. Then you’re not going to make money trading either. So kind of understanding the profile of your strategy as it relates to volatility, I think is really important because a lot of traders who are implicitly long vol because of the way they trade also only by vol.

And so that’s like not. necessarily ideal. To answer the question more clearly, for me, these periods, it’s just a matter of surviving. So like, if you think of yourself as a call option, which is kind of how I like to think of myself, where my P& L is going to be kind of like grinding slowly lower or flat, And then jumping higher.

This is like when I’m trading, well, it’s grinding lower or, or grinding a little bit higher. And then there’s a jump because I catch something. And then it’s sort of flat or small down for a bit. And then another jump. And in these times when there’s no jumps, then the, the real key is To minimize the, the grinding lower so that you always are, your PNL is always behaving like a call option.

So you’re going to be down small in any given month or up quite a bit, quite a bit more than you would have been down. And like, obviously that sounds pretty simple, but it can be difficult. It, the, the strange thing is. For me, and maybe this is true for a lot of people. I’m not sure, but I trade my risk management is unbelievably good when I’m flat or down just because there’s a psychological element to being flat or down where I’m just I’m down.

Playing good. I play good defense in those situations. Usually if I have a blow up, it’s like I’m up 20 million and then I lose six in three days because I got too excited and, and it was doing well. So my strategy essentially is just to minimize the bleeding and to always assume that the market will come back because it’s cyclical, like FX is cyclical, macro cyclical.

There’s, we’re not going to be on a 12 VIX and a, and 4. 8 vol in euro dollar forever. And you just, sometimes there’s just only so much that you can really do. So contain the bleeding and most importantly, be ready and know it when you see it so that when vol starts ticking up, maybe that is the time to buy vol because it’s, it’s going up, but it’s still relatively cheap.

So essentially staying in the game so that you can play when things get better.

Alf: Awesome, Brent. My opinion on the topic is three main pillars. The first is, as my mentor used to say, are you long vol or are you short vol? There is hardly any ground in the middle. So learn, like, learn, reflect on what type of trader are you?

Are you a guy that likes being right 80 percent of the times? Then most likely you’re selling vol. Are you a guy that instead is right 50 percent or less than that? Then you’re most likely buying vol on the margin. And then. This is the first step, right? Understand what kind of trader are you. And there are people who are, it’s very hard to be good at both as a trader, unless as you said, Brent, you were running a fund and then you have like a five different sub strategies.

And by definition, you’re building stuff that is complimentary. But as a person that’s different. Then the second important thing is volatility is a clustering problem. So you have long periods of low vol, and then you will have clusters of all that happen all the time. So if you’re a guy like trading trends or breakouts.

You’ll be right like 30 percent of the times if you’re lucky, maybe 35%, but that’s it. You’re mostly going to be wrong. You’re going to be stopped. There are not so many breakouts all the time, right? But when you get one, then it means vol is going up and vol happens in clusters. And that’s when your PNL is going to spike a bit like you discussed before, Brent.

So if you end up in a period, which is a prolonged drought of, of, of, of, of trends or breakouts or vol spikes, it doesn’t mean your process is wrong. necessarily. So that’s the hardest part now, but don’t judge your strategy by your PNL only. Judge your strategy by how you built it. Is it working? Is, is the process still there or are you doing something to deviate from the process?

Is the process still applicable? Those are the real questions, not, Oh, I’m long vol with my strategy and there has been a vol drop for nine months instead of six. So now I’m getting first traded, which means I got to start doing something different. Because when you think about that, it’s often the wrong time to do something different.

You’re going to buy carry at ridiculously expensive levels and you’re not an expert in buying carry and you don’t know how to manage that and you’re going to blow up your whole thing. Trading is a very hard thing, man. It’s challenging, I would say. So while we were discussing before the podcast, like, I hope you’re right on this vol clustering thing.

And then low vol ends up being high vol because it’s much easier to trade in a higher vol environment for somebody like us than it is in a lower vol environment.

Brent: And if one big issue is that say your stop loss is 5 million, if you lose three and a half. In the chop and the low vol environment. And then you’re like, “okay, now we’re breaking out. This is it.” You’re kind of screwed at that point because you just don’t have enough flexibility. So that’s why it’s so important to, if you’re a. positive vol trade strategy to survive these periods without you know, a massive drawdown so that you’re strong when the, when inevitably, like I said, it’s cyclical and it clusters.

So inevitably it’ll come back, but you got to survive. And then, you know, Like you kind of alluded to really the best strategy is if you’re a discretionary trader is to have some kind of systematic vol selling on the side. But that’s, that’s like a optimal framework. That’s very difficult to execute in real life.

Alf: Fair enough. Hey, Brent, for the last five minutes, do you have something funny or stupid that you read since you came back from your trip that you want to share?

Brent: I mean, the funniest thing to me was the responses to my survey. Um, so we already kind of covered that, but

Alf: I have a smart thing that I, that I heard about.

So a smart thing that I heard about there was this, Actually, I think he was the partner, one of the partners of LTCM. So solid guy. And I don’t remember his name. He runs a wealth management now called Elm, E L M, Elm partners. I think it’s his name. Sorry if I don’t remember your name, mate, but anyway, people are going to Google you and they’re going to find you.

So this guy gave birth to a thing which is called the Elm Coin Toss. So it’s a software. You can go on Google and you write down Elm Coin Toss. You go on this website and you get presented, Brent, with a thing that says you have 25 as your bankroll to start. You have a limited amount of time, say five or 10 minutes, and you can toss this coin on a computer.

As you click and the coin gets tossed, it’s head or tails, but it’s a rigged coin in your favor. So head is 60 percent of the times, not 50, 60 percent of the times, and you win 1 or you lose 1, right? So it’s 50 50 one to one payout, but instead of 50-50 odds, it’s 60-40 odds, right? And the game goes like, hey, you have like five or 10 minutes.

Show me how you maximize your PNL and you know, it’s a rigged coin in your favor. So make money. Okay? And then. The guy said, you know, I used to use them to hire a portfolio manager of traders without telling them anything else than this, like, boom, just throw it at them, give them a minute to think, like literally a minute to think about the exercise and see how they behave.

And we’re going to put the link –

Brent: Do they tell them, do they tell them the coin is rigged in their favor?

Alf: Yeah yeah yeah. They know, you know, all the information before, and then you can toss this thing for five or ten minutes. Yeah.

Brent: Isn’t that just a Kelly optimization thing?

Alf: Shouldn’t have said this because then people are going to go and Google Kelly and do the exercise because you told them how to do it.

Brent: Okay. Okay. I’m sorry, I’m sorry, I wrecked the trick.

Alf: Such an expected value guy here, but it’s, it’s a very simple exercise yet. Not simple because you have to think about, am I going to do Kelly or fool or not fool. And what is the opt? How many tosses do I have in a certain amount of time?

Brent: Right, right.. Okay. And then do we, do you stop at a certain point if it’s real money?

Is that’s actually an, it just, I know we’re about to run out of time, but I find that’s a really interesting divergence between theoretical and actual poker is, okay, say you’re playing optimal poker all night and you came to the place with 500. Now you have 2, 000. And there’s a setup where it’s the very last hand of the night, you’re up 2, 000 and you have aces.

Do you risk your entire 2000? Because that’s obviously your huge favorite. Or is there some other strategy because the money has utility to you and you don’t want to lose all 2000. So like for me, I wouldn’t risk the whole 2000 even on aces because the psychological blow of leaving with zero would be more, more painful than the actual.

ability to double the money to 4, 000. But yeah, that’s interesting. Okay. I’m going to go to that website when we get off the call.

Alf: I’m going to put it up in the show notes. So guys we’re running out of time here. I hope you have enjoyed the comeback. It’s just been two weeks of holidays in July. I’ve received like 50 messages, which means you like us! Good!

Keep liking us, share the podcast around, find Brent on AMFX or on Bloomberg. Find me. On Bloomberg as well. We’re going to put all the links down together with the Elm Toss and have fun doing the toss and let us know how much money you made out of 25 or how many times you zeroed yourself out and don’t lie.

Talk soon.

Brent: Awesome, I can’t wait. All right. Thanks everybody. Thanks Alf. Ciao.