These Were The Most Important Stories for Traders In 2018

Episode Summary

Executive Summary: The episode reviews 2018 as a turbulent year for markets, arguing that sharp equity sell-offs, bond sell-offs, and volatility spikes reflected a mix of Fed tightening, fiscal expansion, trade-war uncertainty, liquidity withdrawal, and shifting market structure. Cameron Kreiss and Luke Kawa emphasize that volatility was not caused by one factor but by a confluence of policy, macro, and technical forces that undermined risk assets across regions and asset classes.

Main Topics: 2018 market volatility and the breakdown of the short-vol trade (Priority: 5/5): The hosts frame 2018 as the year the short-volatility trade finally blew up, with especially dramatic market moves in February and October. They argue that strategies built on stable markets and suppressed volatility were badly exposed. Fed tightening and the end of easy money (Priority: 5/5): The discussion centers on the Federal Reserve moving from highly accommodative policy toward neutrality, with rate hikes and balance sheet reduction contributing to higher volatility and lower equity multiples. Trade war uncertainty and tariffs (Priority: 5/5): Trade policy, especially U.S.-China tensions, is presented as a major source of uncertainty that hit equities, sectors, and global sentiment while undermining expectations for synchronized growth. Liquidity, deficits, and Treasury market pressure (Priority: 4/5): Fiscal expansion, increased Treasury issuance, and quantitative tightening are described as reducing liquidity and weakening Treasuries as a safe haven, causing stocks and bonds to fall together. Market structure changes and quant-driven selling (Priority: 4/5): The speakers argue that passive investing, reduced bank market-making capacity, and systematic strategies like vol targeting and risk parity amplified moves and made markets more fragile. Emerging markets, China, and dollar strength (Priority: 4/5): Emerging markets underperformed due to China’s deleveraging, dollar borrowing vulnerabilities, trade pressure, and a stronger U.S. dollar, with Chinese tech names also dragging indexes. Institutional uncertainty and repricing of risk (Priority: 3/5): The episode closes by noting that uncertainty around the Fed, the White House, Brexit, and other institutions raised required risk premia across assets and reduced confidence in market backstops.

Key Arguments: Market moves in 2018 cannot be reduced to a single cause; Fed tightening, trade conflict, fiscal deficits, and liquidity conditions all interacted to drive sell-offs. The big story of the year was the collapse of the short-vol trade, which had been profitable for years but became vulnerable once volatility returned in force. Treasuries did not reliably offset equity losses because higher issuance and quantitative tightening reduced liquidity and changed cross-asset behavior. The Fed became less clearly perceived as a backstop, especially under Jerome Powell, which weakened confidence during sell-offs. Trade uncertainty hurt both U.S. sectors and global markets, and the uncertainty itself was more damaging than any fully defined tariff outcome. Emerging market weakness was not only about tariffs; China’s own deleveraging and U.S. dollar borrowing exposure made EMs vulnerable before trade tensions intensified. Market structure matters: fewer bank balance sheets, more passive flows, and systematic strategies can intensify price moves even when macro data remain solid. U.S. macro fundamentals were still decent—employment and inflation remained near target—showing that market volatility was driven more by policy and positioning than by recession-like data.

Data Points: Short-vol trade duration: Profitable from early 2016 through January 2018 - Luke Kawa describes the short-volatility trade as a major recurring winner until it blew up in 2018. S&P 500 target surprise: First quarter of analysts' targets beaten within the first five sessions - Luke notes how early-year optimism quickly gave way to sharp losses. Fed tightening comparisons: 1994 and 2005 - Cameron references these as prior tightening years where S&P 500 multiples fell sharply. Treasury issuance: Higher issuance at both the long end and short end - Cameron says the fiscal deficit and tax cuts led to more government borrowing and liquidity strain. Macro employment gauge: Well over 100K jobs per month - Luke says U.S. labor-market prints remained healthy despite market stress. Inflation level: Around 2% - Luke cites inflation as still near the Fed’s target by preferred measures. FTSE multiple decline: 27% - Luke cites this as the UK market's re-rating amid Brexit uncertainty. Emerging-market dollar borrowing window: Last 6-7 years - Cameron points to this period as creating external vulnerabilities for EMs. Bitcoin trend: Six-week losing streak in early December - Luke mentions the 'long Bitcoin short the bankers' trade losing momentum.

Pivotal Quotes: "It was the story of the huge blow up of the short fall trade." — Luke Kawa: Luke identifies the collapse of volatility-selling strategies as the defining market event of the year. "What markets hate above everything else is uncertainty." — Luke Kawa: Used to explain why trade tensions, Brexit, and policy ambiguity hurt assets across regions. "Uncertainty and lack of confidence in institutions requires a higher risk premium across assets, across currencies." — Cameron Kreiss: Cameron summarizes the broad valuation impact of political and policy instability.

Implications: Listeners should see 2018 as a warning that benign volatility and steady gains can reverse quickly when policy tightens, liquidity thins, and crowded trades unwind. The episode suggests future markets may stay more fragile unless macro policy, trade rules, and market structure become more predictable.