The (Fed Funds) Future

Estimated read time: 3 minutes and 22 seconds

In this week’s newsletter:

1. Market recap

2. Skills & data used this week

3. Top holdings: what I am buying & selling

Market Recap

YTD returns:

• S&P 500: +6.54%

• Nasdaq: +11.96%

• Russell 2000: +9.03%

• US Dollar ($UUP): +0.61%

• Gold ($GLD): +2.2%

A quiet week of data as we prepare for next week's CPI report.

We continue to see the market and FinTwit alike talk about a "pivot" or "soft landing" with respect to the Fed's decision to raise interest rates.

They need, key word NEED, inflation to continue falling back to their 2% target. So what if inflation doesn't fall fast enough?

Oof..

So Powell is admitting that, despite the numerous rate hikes already, we still have a ways to go with inflation >6%? (*cough* hawkish *cough*)

An important metric that investors turn to when rumors of "soft landing" rise is the Fed Funds Future.

The fed funds futures rate is a financial instrument that allows market participants to bet on the future direction of the fed funds rate. The futures contract is a type of derivative, meaning it derives its value from an underlying asset, in this case, the fed funds rate. Fed funds futures are traded on exchanges and the prices of these futures contracts reflect market expectations for the future level of the fed funds rate.

So what does this futures curve look like? Or in other words, how does the market think Powell is going to react with his decision to raise, pause, or lower rates.

March: 25 bps hike

May: 25 bps hike

July: Pause

Using this curve can tell us what's already priced in. So any deviation from this curve will shock investors - could you imagine if Powell hikes by >50 bps in this next decision? What if he hikes in July when investors expect a pause?

His reiteration of getting inflation back to 2% (which he admitted wouldn't happen this year) leads me to believe that this man could go rouge at any second...

Skills & Data Used This Week

Beta.

Calm down frat boys - the beta I want to discuss is the way of measuring volatility relative to the market's volatility. In general, the market always has a beta of 1.

If you are invested in a stock that has a beta of 2, you can expect it to return (on average) two times the market's return. On the other hand if the market returns a loss, your stock will lose double.

This brings us back to how we combine the two concepts in order to arrive at beta-adjusted position sizes.

Recall our position sizing guidelines (not actual holdings, just an example):

Currency: 12-13% -Dollar, Gold, Euro

Fixed Income: 10% -Bonds

Equity: 6-7% -Stonks

Commodities: 4% -Oil, Natty Gas, Copper

Let's drill down into the Equity section for a stonk with a high beta. Mr. Elon and Tesla, you're up - equity beta is just over 2 (I use Yahoo finance to find beta).

While Yahoo uses 5 years/monthly data to compile beta, in relative terms a beta of 2.11 tells me that Tesla will return more when the market is up, but lose MORE when the market is DOWN.

Our equity position sizing max for equities is 6% - beta adjusted sizing for something with a beta of 2 would be a 3% max.

Beta-adjusted position sizing = desired position max / beta

Adhering to the rule of beta-adjusted position sizing will ultimately mitigate risk in your portfolio. Stay nimble out there.

In The Account | my top holdings 

1. Gold & Gold Miners - $GLD & $GDX

   1. Gold typically reacts inversely with real, longer term rates rising.

   2. Rea, longer term rates will tend to fall in recessionary environments

   3. So on rate bounces higher, you buy more Gold!

2. CHINA

   1. I have been buying all of these on red this week as China's economic data looks nothing like the US (it looks much better)

   2. $KWEB, $PDD, $CHIQ, $EWH

3. BONDS

   1. It was on my radar last week and now I've grossed them up enough for it to be a top position in my portfolio

   2. This is another bet on longer term rates to fall, which not only benefits Gold but also Bonds. Bond volatility (MOVE index) continues to fall - we like investing in assets with falling volatility!

   3. $TLT & $IEF

On The Radar | positions I want to build / sizing up

1. NOTHING

Off The Grid | removed positions / short selling opportunities

1. TECH - $XLK, $QQQ, $GOOGL, $TSLA

2. RETAIL - $XRT

3. HIGH BETA - $SPHB

4. CRYPTO - $BITO, $MSTR

5. HIGH YIELD - $HYG

Until next week....

-BW

DISCLAIMER: None of this is financial advice. This newsletter is strictly educational and is not investment advice or a solicitation to buy or sell any assets or to make any financial decisions. Please be careful and do your own research.