Alpha Exchange Dean Curnutt

There’s been some decent ink spilled recently on the “dispersion trade” which has profited from the epically low level of realized correlation among stocks. If winning trades attract capital and erode the margin of safety in the process, is this exposure crowded and vulnerable to an unwind? In this short pod, I lay out a 5-part, informal framework for thinking about risk-off episodes. In the process, we consider the pricing of vol and correlation. While the spill-over risk from dispersion trades gone wrong doesn’t appear to be high, the pricing of index volatility that results from never seen before levels of implied correlation offers a uniquely attractive cost of macro insurance.

I hope you enjoy and find this useful.

Earning a Ph.D. in financial economics is no small feat. And not only did Garrett DeSimone do just that, but he would unknowingly embark on his future career in the process of doing so. His dissertation from the University of Delaware involved the study of event risk premia in single stocks ahead of earnings. And to perform the analysis he engaged with OptionMetrics, a firm specializing in implied volatility data. Now the Head of Quantitative Research there, Garrett leads the firm’s efforts to deliver carefully constructed data sets to its client base, while generating original empirical studies of option pricing and trading strategies.

Our discussion considers some of his work, starting with his dissertation and the finding that the earnings event risk premium for single stocks makes straddles punitive to own. We liken this to a more recent phenomenon at the index level – the inflated one-day S&P 500 implied vol levels that have occurred in days before 3 macro events – the CPI, the Nonfarm payrolls report and FOMC meetings. We talk as well about one day options and the risk of a blowup. At least at this point, Garrett sees flows that are reasonably mixed, with no obvious risk of instability resulting from positioning. Lastly, we discuss recent work he’s done on implied dividends using a novel approach. Relative to years earlier, he finds that there is currently very little risk premium implied in dividends. That is, the market is charging almost nothing for bearing the risk that dividends wind up disappointing on the downside. It’s interesting work and a good example of the rich information that can be extracted from derivatives markets.

I hope you enjoy this episode of the Alpha Exchange, my conversation with Garret DeSimone.

The study of correlation is valuable, informative and, likely an over-indulged in activity on Wall Street. That said, there are important risk considerations when it comes to how significantly assets move together or do not. The task at hand in this short podcast is to illustrate and contemplate the diverging paths of two important correlations: that between the stock market and bond market and second, between equities themselves. If the stock market is diversifying itself in real-time, there are reasons to think it cannot last indefinitely.  I hope you enjoy.

With option prices in the doldrums, your host provides some thoughts on why and in the process reflects on the skinny levels of risk premia a decade ago. I finish with some cautionary observations around what might go wrong. I hope you enjoy this short pod!

It was a pleasure to welcome Raghuram Rajan back to the Alpha Exchange. Raghu is currently a distinguished professor at the Chicago Booth School of Business and is the former head of the Reserve Bank of India. With a deep understanding of the intersection of markets, the economy and policymaking, he is among the most important voices on Central Banking.

With this in mind, our discussion explores his recent book “Monetary Policy and Its Unintended Consequences”, the title alone of which is entirely through provoking. Raghu shares his assessment of the tendency for policy towards increasing asymmetry – where the Fed acts as a lender of last resort during a crisis but finds itself unable to achieve normalization during non-stress periods. We talk as well about the distortions that result from forward guidance and asset purchase programs during non-emergency periods.

Lastly, we talk about policy spill-overs, specifically the impact that the Fed’s actions can have on emerging economies. As head of the RBI a decade ago and as India experienced the impact of Bernanke’s 2013 taper tantrum, Raghu has much to say on this subset of unintended consequences. He argues that the Fed’s remit will continue to target domestic growth and inflation, consideration of the international impact of policy decisions should conceivably be a part of the policymaking conversation.

The second half of our discussion focused on Raghu’s most recent book, “Breaking the Mold”, in which he reviews the progress and challenges in India. Here, he documents the diverging paths of India and China and makes recommendations for how India can learn from what China has done while recognizing both the constraints and opportunities associated with today’s global economy. He argues that India is uniquely positioned to provide high value-added services in a digital and remote work economy.

I hope you enjoy this episode of the Alpha Exchange, my conversation with Raghuram Rajan.

Corporate Fraud is an unfortunate, costly and seemingly never-ending aspect of the world of business. In the best case, fraud is prevented or, at least caught before harm is done. All too often, however, these cases of deception lead to large financial losses, impacting the lives of many - shareholders, individuals and certainly those that are courageous whistleblowers.

A little more than 15 years after the unwind of the Madoff Ponzi scheme, I invited Harry Markopolos back to the Alpha Exchange. Harry is often simply referred to as “the Man Who Knew”. He chased Madoff for years, serving up a comprehensive slew of evidence to the SEC that was mind boggling in its degree of logic, rigor and scope. Our conversation looks back on the lessons of this Ponzi scheme and also zooms out to consider other examples of corporate fraud including Theranos and FTX. Throughout our discussion I seek to gather Harry’s insights on the commonalities in these cases, how to detect them and also, importantly, how to prevent fraud. He points to a few areas of progress on the enforcement front but makes a strong case that the penalties associated with being caught need to be considerably larger.

I hope you enjoy this episode of the Alpha Exchange, my conversation with Harry Markopolos.