Disintegrated Thoughts: ECB Volatility, Business Building, Speculation, & Judo

For this post, I’d like to offer a few “Disintegrated Thoughts” on some things I’ve been thinking about in the investment markets. These include:

  • The ECB and volatility deleveraging
  • Business building and ignoring valuations
  • Sticking up for “speculation”
  • Notes from the judo mat

A spontaneously “live” ECB meeting and volatility deleveraging

A couple months back, I introduced my “volatility deleveraging” thesis in a two-part post (Part 1 and Part 2). I defined volatility quite specifically as the expectation gap between what investors thought would happen in the markets and what actually did (and hence is only observable ex post). A more diverse expression of viewpoints and positioning should manifest as higher measures of implied volatility. A less volatile market attracts a greater employment of leverage. I believe Quantitative Tightening (QT) represents a regime change with respect to volatility, such that it will now be higher (on average) and hence investors will incrementally de-risk. To be sure, this thesis has yet to fully play out. I’m either wrong or early; time will tell.

Recent reports indicate that this upcoming meeting of the European Central Bank (ECB) will now be a “live” one, where QT could be discussed (gasp!). While making headway on this front was more or less captured within the popular market narrative, it appears that the timing (and/or probability) for such may now be accelerated. To me, the potential for a change in narrative is what’s important. Whether or not the ECB (or the Fed for that matter) actually follows through is secondary. The possibility for changes in expectations alone represents higher volatility; though their materiality is debatable and the important crux.

While pondering the potential impacts of shifting European capital flows, I came across the following chart. It illustrates that a large percentage of U.S. corporate bonds are held by foreigners. While “foreigners” is not a monolithic group, it seems quite plausible to me that QT by the ECB could potentially impact the U.S. domestic markets to some degree, as investors adjust their positions in anticipation.

Source: The Daily Shot