The economic reports for April, May and possibly June have already been written
Everyone has a favored financial movie. Some love “Wolf of Wall Street” (though why, I’ll never be able to ascertain … I’m not one for debauchery). Some …. “The Big Short” (great great film, but too many oversimplifications for me). I make no secret, that mine is “Margin Call”. Besides all of the A-list actors that shine brilliantly, there are many fine technical details that make the movie … almost … perfect.
Let’s refer to one such scene. Everyone knows it.
The CEO Mr. Tulde has been brought in, as has the entire board at “an ungodly hour” in the early morning, and a risk analyst (Mr. Sullivan played by Zachary Quinto) is left to explain how the copula-driven models they relied on to quantify risk had effectively collapsed. What had been reduced to a single, clean “risk number” was built on correlation assumptions that worked in static, normal conditions … but broke the moment stress entered the system; and theta had complicated what was already a stressed system. Entire portions of the risk they carried, particularly in the tails, were never properly accounted for.
There are four lines that are delivered. They didn’t have to be there. But it was a stroke of genius that they were in the final cut of the movie.
Mr. Tulde (played by Jeremy Irons who was beyond genius in the role), asks:
“What I’m guessing it says is that considering the, shall we say, bumpy road we’ve been on the last week or so, that the figures your brilliant co-workers up the line ahead of you have come up with don’t make much sense anymore considering what’s taking place today.”
Sullivan: “Actually, not what’s taking place today, but what’s already taken place over the last two weeks”
Tulde: “So you are saying this has already happened?”
Sullivan: “Sort of”
This was brilliant, as it explains that one of their many assumptions was that risk could be reduced to a static, correlation-based framework. Their Gaussian copula did not account for deterioration through time. As the underlying collateral weakened and correlations moved toward 1.0, the system was not simply wrong … it was compounding its own error. Time was not neutral in the model. It was corrosive.
Just three lines of script. And yet the express a fundamental aspect of many problems that occur throughout finance.
The passage of time compounds many problems in non-linear ways. As I repeated to students throughout 2008: “All dislocations and tail events and in risk are non-linear in nature, by definition. It will bite you in a way you cannot and did not expect as the problem progresses through time.”.
Ok.
Great.
Why are we talking about this? The Strait of Hormuz, effectively remains closed …
Now, we will refer you to what we said in various spaces, including Danny Riley’s Opening Print back on March 13th, 2026:
“Higher inflation is not coming. It’s already here, and people just don’t realize it yet. We’re just waiting for the April [and I would add here the May and June] print of the number is all.
The problem for equities is not simply valuations, although those remain historically stretched. Risk assets more broadly feel increasingly unstable as geopolitical tensions and commodity inputs reassert themselves. Yet the market has not fully broken down either. The result is a macro environment where conviction shorts across the board remain difficult. We feel this is due to the fact that the market really hasn’t woken up to the coming surge in inflation either. So that rules out Treasuries as well. When everyone is ‘hip’ to the fact that inflation will surge? Watch Treasuries scream to higher yields.”
That was written eight days ago.
Now anyone that knows me? Knows that I hate predictions. And I want to be clear.
Although yields are higher, and equities sank, while we profited off of the Oil Trade as noted in the stream? Although what I said last week looks like a prediction in hindsight? It was not.
All we did was try to desperately understand, log and note if there was any change in evolving initial conditions. We post the Daily Note every morning. It’s boring. It’s routine. It looks like the same thing. There are no ‘trades’. Over and over and over and over again.
And then over again.
And over again.
But it keeps us grounded to initial conditions.
So although what I said looks like a prediction in hindsight? It was not. The Strait of Hormuz remains closed. And there is a deterioration in shipping that will not be resolved quickly. And that means … time deterioration for risk.
I quote Mr. Sullivan from the same movie:
“Actually, not what’s taking place today … but what’s already taken place …”
It’s already happened, and continuing to happen. As was so well illustrated in that scene in “Margin Call”.
Now, what none of us can know is the downside volatility and the strength of that volatility that we may all experience. Or not experience. It’s the future, and those sorts of variables are complete unknowns. But, while we all find ourselves within this particular regime?
As you will note for about the last 17 days in our X stream? We are firmly in the stance of the line spoken by the character Jared Cohen, played by Simon Baker …
“Sell it all … today …”
And please be aware, we are using that line as a metaphor, and a bit of hyperbole.
No, we are not going to sell everything we own in some sort of idiotic ‘firesale‘ fashion. As we said, what none of us can know is the downside volatility and the strength of that volatility that we may all experience. Or not experience. It’s the future, and those sorts of variables are complete unknowns.
But we are hedged up on all of our core holdings, and even looking for an opportunity to increase those hedges. We are net short in our Long-Short Valuation Account. And our shorter-term programs are beginning to fire signals to get short in key areas along a multiple of risk instruments. And as we have already stated? I wouldn’t look to Treasuries to be much of a ‘hedge’ in this environment.
We are cautious, and we are looking for opportunities were we can sell all rips.
Until next time, stay safe and trade well ….
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