Speculative Energy
Vol #169 : March 7th, 2024
Before it was passé, but after it was cool, I went to an art auction in Chelsea.
I got a paddle despite having less in my bank account than the median piece of contemporary art on the walls. It was all the caricatures; open bar, black turtlenecks. Vague discussions of space and light that up glowed the paintings and their observers.
When the bidding starts, murmurs coil through the room as value becomes a reflection of naked desire, will, and capacity. The best auctioneers channel that plasma into billboard hammer figures. I’m feeling it.
Online auctions are a little different, but even a Priceline bid gets the juices flowing. Ebay sniping was a bric-a-brac parlor game until the bots took over. Hart Davis Hart live streams the auctioneers for their wine parcels, which gives you something to watch while getting out bid by the risk manager down the hall.
Whether it’s postage stamps or stock certificates, liquidity might be the lifeblood of markets, but the beating heart is speculative energy. The pulse of activity is fluid and amorphous. It’s not an absolute level, or fenced in by anything but lack of creativity.
Driven by auction blocks, chat rooms, or resort wear firesides, communities establish and perpetuate a zeitgeist that channels asset prices. An ephemeral warehouse bartering session on 21st street, or the ES pits at the Merc. Another session of Intimate Talks About Ideas.
Bitcoin Miami 2021. Max Keiser puts on his white suit and screams “We’re Not Selling! F&* Elon!” over Twitter shade the Techno-King was putting out via emoji. The whales that shelled out $5,000 basked in the glory of constrained supply on an immutable ledger. This energy was raising eyebrows.
Asset prices took a digger relatively shortly thereafter. Energy left cooking becomes mania. Tulips and South Sea shares purchased in an emotional fury. Greed dislocates price from value and the bit collapses. Hedge Phase, Speculative Phase, Ponzi Phase.
The heart beat of speculative activity doesn’t always have to be a cardiac event; money and activity move to different pockets of the financial universe. Between crypto, sports betting, and plain vanilla equity options, there’s always an app to help to lever your dollars up.
Let’s bet on it is a phenomenon that has accelerated in recent years. Some cocktail of access, ZIRP, and nihilism has glorified the idea of yolo wagers. This audience is not captive. The difference between AAPL earnings and Kelce touchdowns is the same as between eurodollars and ShibaInu.
Capital’s job is to go where it's treated well, or at least not abused. Find me a marginally higher return for a marginally lower adjusted risk, and by the honor of my sharpe ratio I’ll be there.
Hot money doesn’t have a great reputation. The Asian Financial Crisis of 1997 often has these rent seekers nailed as a precipitating cause. Enormous GDP growth was achieved across the region during the 1990s, but it was heavily reliant on exports and foreign investment. When there were better opportunities elsewhere, a chain reaction of exchange and interest rate risk crushed asset prices.
The warm flows of funds giveth and taketh. Developing economies are particularly susceptible to the flux, but even robust and well regulated markets feel the effects.
Gamestop developed a fiercely loyal community that began to overwhelm the liquidity of a previously low cap name. The interplay between options and underlying liquidity created a dynamic where forced hedging had a reflexive impact on underlying price. While nothing technically broke, it put a lot of strain on market plumbing and spurned everyone to adapt their strategies.
Market makers love speculative energy. Dealers don’t want the game to stop. Customers shouldn’t either, so long as they’re keeping their play money account in check.
Within equity options, there is a shift between products. Earnings brings the predictable cyclical volume, and stock specific news events drive volumes for days and weeks. Bubbles always go up, but speculative energy flows into products with equally bearish vigor.
Index volume relative to the whole is an interesting proxy for this. If most of the activity is happening in your benchmarks, there’s not a lot of speculative energy. Sure the SPX trades a lot more when there’s a big macro event, but the marginal volume will come from the individual whack-a-mole opportunities that bounce and retreat.
Trading is the end game for speculative money. Portfolio buffer strategies trade because they have to. They trade with a goal of minimizing execution impact and getting risk as fairly priced as possible. It’s not all punters and mugs driving the marginal volume, but they’re all there precisely because it’s the most interesting game in town right now.
New market participants pay different prices. Sleepy towns pre-COVID got a look at what kind of cash a product manager with a rich aunt can pay for real estate. GME call buyers didn’t know what implied volatility was but they were forking over real dollars for hundreds of vega 200% out of the money.
For the shop keepers that have built their business on supplying bids and offers, it’s necessary to migrate resources to where the activity is. But what is going to make a customer stay beyond a few punts because their barber mentioned puts in RILY?
Converting speculative energy into investable energy is a mission of education and experience. We talked last week about how the displayed markets are the best advertisement for liquidity. The market forces are aligned to deliver quality customer fills, even if it’s not always clear to the end users when or why that happens.
Moving from a close your eyes and pray position to something that lets you sleep easily is the opportunity for advisors and educators. Speculative energy comes rolling in on promises of convexity and opportunity, but should stay for the boundless potential for risk transfer.
At least in options. Crypto you should stay for the tech, they say.