How To Make Money In Uncertain Markets?

February 6, 2023

How To Make Money In Uncertain Markets?

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Recession or no recession?

This is the crucial question that traders are grappling with at the moment. Naturally, how you answer the question will determine how you position your portfolio for the months ahead.

But what if you simply want to wait for the markets and/or data to give a clearer heading? Waiting and not trading is certainly one way to go, but so is taking non-directional positions.

Markets are not fully aligned towards a weaker global economic environment (do note that they were fully aligned and indicating a global recession as recently as October 2022)

Weaker USD in short term, but the medium term trend is still biased towards strength
Same in US equities, medium term weakness, but short term strength
Commodities also aren’t aligned. Oil and Aluminum remain range bound, while Copper and Iron Ore have rallied strongly since Oct ‘22
When the Fed starts to cut rates in response to a slowing economy, expect lower short term and long term rates, but also lower prices in risky credits as investors pay more for safety and liquidity

Hedge market risks:
Not a good time to take directional risk in markets. Short term trends are not aligned with medium term trends in key markets, which makes the future direction of global markets unclear

Given the current uncertain macro environment, what characteristics should we look to add to portfolios?
Preferably, positions which are relatively:
- Stable
- Low risk
- Non-directional
- And also offer some sort of yield

Long 1 month or 3 month US Treasury Bills

Fed controls the short end of the curve, and long term rates are not pricing in levels of growth driven inflation commensurate with the Fed’s hikes; hence massive curve inversion
Buying bills in this uncertain environment gives:
- Higher yields than buying at the long end
- Flexibility to roll them over every 30 or 90 days, without having your capital locked up for longer should market conditions shift rapidly
Buying longer term Treasuries at this point for the sake of yield will:
- Lock up your capital should their short term trend reverse and prices fall, saddling you with a capital loss
- Give you a lower yield
- Represent a directional bet, even if their prices continue to rise (giving you a capital gain along with yield)
US 1 month Bills are currently trading with a yield of 4.56%, and 3 month Bills at 4.67%. US 10y Notes are trading with a yield of 3.55%

These trades are non-directional, but more aggressive in terms of cost and the risk profile of the asset classes involved

Long SPX, hedge with ATM 1y put
- Gives upside exposure if equities continue to rally, guards against downside crash if downtrend resumes
- SPX (S&P 500) is currently trading at 4136
Straddle (buy calls and puts) on risk assets, which will profit should markets begin to trend strongly in one direction. ATM straddles on:
- SPX, NASDAQ, Russell 2000
  - NASDAQ Composite is trading at 12006, and the Russell 2000 at 1985
- USD, via the most liquid currency pairs – EURUSD, GBPUSD, AUDUSD, USDCAD, etc.
- EURUSD is trading at 1.0795, GBPUSD at 1.2066, AUDUSD at 0.6930, and USDCAD at 1.3406

More importantly, these trades allow:
1. Exposure to both sides of the market during this uncertain time
2. Flexibility to reduce exposure to one side should markets begin to trend strongly in one direction

Charts for this week’s report can be found in the slides at the beginning of the article.