Each Sunday I compose a list containing the most thought-provoking and interesting content I’ve consumed during the past week. Primarily as a way to keep inventory of material that influenced me and my way of thinking.
Papers/Notes
Risk Update: September 2023 – “Wait For It…..” by Convex Strategies.
We endlessly ponder the question as to why/how a trivially small group of people, with barely a sliver of a difference in world views and absolutely no skin-in-the-game, can decide they somehow know better than millions upon millions of explicitly accountable market participants what the price of borrowing and lending should be.
We have opined for a good long time, using our catch phrase of “who’s going to own the 40?” (the notional allocation to fixed income in a 60/40 portfolio), that the ultimate pain for the market, given the mass of ludicrously low yields on government debt and the historically extreme size of debt issued (Jim notes the historical madness of negative nominal yields), that the ultimate pain for the market would be the dreaded bear steepening of yield curves. The pain, in any undesired market environment, always comes from the same thing: too much leverage, aka undercapitalized risks.
We have long been of the opinion that central bankers would be best served by keeping the curves inverted, limiting the pain of unrecognized duration losses on the Sharpe World entities holding all their bonds, until they got to the recession that they seem to desire and, thus, limit any curve steepening to the far more common bull steepening dynamic. In other words, get to the recession so the market would willingly continue to buy and hold the bonds. A failure to vanquish the inflation beast, thus risking yet further deterioration of monetary and fiscal credibility, brings us back to the unmanageable dilemma of nobody wanting to own the “40”. A circumstance that may be indicative of a fairly reflexive relationship with the dreaded bear steepener. As the below scattergram of the historical occurrences of bear/bull flattenings/steepenings indicates, maybe the good news is that bear steepenings just don’t happen. On the other hand, that may entail a certain lack of capitalized risk in a world that uses frequencies within historical lookbacks as a flawed projection of probabilistic future risk, not to mention stochastic processes in longer dated path dependent option hedging models.
October 2023 Newsletter: Rising Instability by Lyn Alden.
When thinking about the financial system of a developed country like the United States, our mental model generally views them as marginal systems: a series of oscillations that stay within the same overall bounds. Sometimes debt levels go up, and sometimes we need to tighten our belts so that debt levels go down. Sometimes the central bank tightens monetary policy, and sometimes they loosen it. The financial system, in other words, is thought of as being similar to how it was 20 or 40 years ago. But in reality, most financial systems are unstable. They have an unbounded output in the sense that sovereign debt as a % of GDP keeps growing over time. Fortunately, the frequency of these systems is very long, so it takes decades for problematic levels of instability to build up to the point where the output gets out of control. When it does get out of control, the system needs to be reset, recapitalized, or restructured in some way. In other words, sovereign bondholders lose purchasing power through nominal default or, more commonly, through inflation. To use the control system analogy, the oscillations get out of control, the electromagnet drops the ball, and it has to be picked back up and put back in with some fixes.
Writings/Essays
Diary of a Madman by Nikolai Gogol.
But I feel much annoyed by an event which is about to take place to-morrow; at seven o’clock the earth is going to sit on the moon. This is foretold by the famous English chemist, Wellington. To tell the truth, I often felt uneasy when I thought of the excessive brittleness and fragility of the moon. The moon is generally repaired in Hamburg, and very imperfectly. It is done by a lame cooper, an obvious blockhead who has no idea how to do it. He took waxed thread and olive-oil—hence that pungent smell over all the earth which compels people to hold their noses. And this makes the moon so fragile that no men can live on it, but only noses. Therefore we cannot see our noses, because they are on the moon.
The Mortal Combat of Foxes and Hedgehogs; or, Why Do Eagles Win? by Mateusz Stróżyński.
The hedgehog reduces everything to his own favourite fragment and tries to impose that on the complex and nuanced whole of reality and the human life. On the other hand, the fox embraces the fragmented, modern view of reality, and tries to have fun. Until, of course, it can’t anymore, because the delights of chaos and meaninglessness are somewhat limited. Especially, for the poor, the sick, the old and the dying. It is easy to be a sceptical, ironic fox when you’re an Ivy League professor of comparative literature; it is rather more difficult if you’re a mother of a disabled child and you wonder at 3.00 a.m. what all of this is about.
There’s a Reason This Bull Market Feels So Weird by James Mackintosh.
At the start of the past four bull markets, the rebound was led by banks and smaller companies. And in three out of the four bull markets, earnings forecasts rose, too. But investors took a simplistic approach to bullishness and bought almost everything. It was hard to lose money on stocks. This time, large numbers of stocks went down, even as the S&P 500 went up. Banks did badly, and smaller companies worse, while earnings expectations have dropped. This isn’t normal.
Podcasts/Conversations
Alexandra Hudson on the Soul of Civility, EconTalk.
What You See and Feel Is Not Reality with Dr. Donald Hoffman, The Jordan B. Peterson Podcast.
The Seventh Seal, In Our Time.
Security, Lifestyle, and Aspirations: Putting the Individual Into the Risk Equation with Ashvin Chhabra, Seeking Risk: The Fab Rick Show.
”Luxury Beliefs are Status Symbols” with Rob Henderson, The All-In Summit.
Long vol, short prediction models 