Macro Mispricing Limited

In this note, we share our thoughts on the macro mechanics at play in the context of the current economic cycle. If well received, we will continue to share these Macro Mechanics. Let us know in the comments below.

Despite significant macroeconomic volatility over the last few years, we currently see the alpha opportunities in a transitionary phase- with little chance to size up exposures. These dynamics can change relatively quickly, but the interim provides a valuable opportunity to reflect on the drivers of alpha and be best prepared for when macro conditions align.

Recall the primary drivers of macro asset price changes, which come from changes in three variables: growth, inflation, and liquidity. We examine each briefly:

• Growth: Growth is a function of output often prone to cyclical accelerations and decelerations based on credit conditions.
• Inflation: Inflation is a function of the balance between nominal spending and the output capacity of the factors of production.
• Liquidity: Liquidity is a measure of balance sheet capacity in the economy, measured by the flow of cash and cash-like assets that potentiate spending in the real and financial economy.

Macro alpha is a function of how these variables evolve relative to what markets have priced in for these variables. This understanding is crucial in evaluating alpha, as regardless of the level of conviction in our forward-looking views, it is only when those views are not already reflected in markets that we can capitalize on our views. A significant amount of this mispricing occurs during and around recessions. We visualize this mispricing via our macro mispricing monitors, which measure the gap between macro pricing versus our systematic forward views below:

As we can see above, macro mispricing is limited, which reduces the opportunity set for attractive alpha positions. This opportunity set is primarily a function of markets that appropriately reflect the ongoing macro impulse. In this month’s Month in Macro, we look through growth, inflation, and liquidity to assess this pricing. Email us at [email protected] to learn more about Institutional offering.