Charming Vanna (guests: Cem Karsan, Kuppy) - Market Huddle Ep.113

Episode Overview

• Volatility expert Cem Karsan provides a deep dive into market structure, explaining the concepts of "vanna" and "charm," how dealers are structurally positioned, and why fixed-strike volatility is a better indicator than the VIX.
• Karsan shares his high-conviction macro thesis that the market is undergoing a multi-decade regime change from monetary to fiscal dominance, which will usher in an era of inflation.
• Harris "Kuppy" Kupperman introduces his new service, Kuppy's Event Driven Monitor (KEDM), which systematizes the process of tracking special situations like CEO changes, privatizations, and activist campaigns.
• The hosts discuss current market trends, including the parabolic rise in Tesla and the broad strength across commodity markets, and share timeless advice on trading psychology and options strategies.

Key Concepts

• Structural Dealer Positioning: Market makers and dealers are universally short puts and long calls in major indexes, as they take the other side of a world that is naturally long the market and seeks downside protection.
• Dealer Positioning as a Carry Trade: This short-put, long-call position functions as a profitable carry trade, selling expensive downside volatility and buying cheaper upside volatility, but it carries significant tail risk that can create feedback loops in a crisis.
• "Vanna" and "Charm": Key option "Greeks" that describe dealer hedging flows. "Vanna" is the change in delta resulting from a change in volatility, and "charm" is the change in delta due to time decay.
• VIX vs. Fixed-Strike Volatility: The VIX can be a misleading indicator because it moves mechanically with the market due to the options "skew." Fixed-strike volatility provides a truer measure of the actual supply and demand for options.
• VIX-Market Correlation Breaks: A divergence from the normal inverse relationship between the VIX and the market (e.g., both rising together) is a powerful signal of significant underlying institutional flows.
• Macro Regime Change: The market is at an inflection point, shifting from a 30-40 year cycle of monetary dominance and deflationary pressures to a new era of fiscal dominance and inflation.
• Event-Driven Trading: A strategy that focuses on finding opportunities in special situations and corporate events, such as M&A, CEO turnovers, index inclusions/deletions, and activist campaigns.
• Kuppy’s Event Driven Monitor (KEDM): A service designed to systematically track and flag event-driven opportunities, focusing on situations driven by fund flows rather than providing specific stock picks.
• Trading Psychology: A crucial aspect of successful trading involves battling one's own emotional and psychological biases, a process aided by keeping a detailed trading journal.
• Options for Income: The strategy of consistently writing options to harvest premium and time decay (theta) can be a reliable source of long-term returns.

Quotes

• At 0:20 - "He explains to us who this Vanna is that everyone's talking about." - Host Kevin Muir previews the main topic of the interview with guest Cem Karsan.
• At 3:07 - "I was at RBC and... I remember cutting up the inventories for your group in Chicago." - Muir reveals a surprising past connection to guest Cem Karsan, recalling when their career paths crossed at RBC.
• At 22:57 - "In one or two months a year... that's the rest of the time is really paying costs." - Karsan explains that market makers derive the vast majority of their profits from brief, volatile periods.
• At 24:44 - "Market makers and dealers universally are short put, long call in the indexes." - Karsan identifies the fundamental, structural positioning that underpins many market dynamics.
• At 24:50 - "Logically, the world is long the market, right? Long the index... if you have a job... you're long the market and you need, if the market goes down, you don't do as well." - Karsan explains the rationale behind the dealers' structural short-put position.
• At 25:51 - "The problem is it's a carry trade, just like all other carry trades, it has a it has a tail on it, right? And when people need to get out, everybody's got to get out at the same time and it creates a feedback loop that creates even more stress." - He describes the inherent risk in this structural positioning.
• At 52:15 - "I think the best way to look at implied volatility is to understand fixed-strike vol... it's actually a much more robust understanding of what's actually happening for most institutional flow in the market." - Karsan argues that fixed-strike volatility provides a clearer view than the VIX.
• At 55:25 - "When you do see correlation breaks between the VIX and the underlying... that means a lot, actually." - Karsan highlights the importance of watching for divergences from the typical VIX-market relationship.
• At 59:33 - "Don't worry about how much you're getting paid day one. Find somebody who has a lot of experience... a mentor... and pay for knowledge." - Karsan advises young people entering finance to prioritize learning over initial salary.
• At 1:01:28 - "I've been pretty vocal about this... about the move from monetary to fiscal... We've been in a 30- to 40-year cycle of monetary dominance... and I really think we're about to see a reversal of that." - Karsan shares his thesis on the coming multi-decade regime change.
• At 1:02:12 - "The models for the last 30 years, I don't think will apply as much for the next 20... I really think we're in the midst of quite a regime change here." - He warns that past quantitative strategies are likely to fail in the new economic environment.
• At 80:35 - "This spring, when event-driven really started working—and I mean like really started working—I said to myself, 'I need to systemize this. I'm missing too much.'" - Kupperman describes the catalyst for creating his new monitoring service.
• At 81:02 - "As soon as he started doing that, I realized just how much money we'd left on the table for the past decade, quite honestly." - Kupperman on his reaction after beginning to systematically track event-driven situations.
• At 82:25 - "We started adding some of the stuff that really takes manual effort... where the Bloomberg doesn't spit out an answer for you. And that's really where I think the alpha and the edge is going to come from." - He highlights the unique value of KEDM in tracking hard-to-find data.
• At 89:04 - "A lot of newsletters give you stock picks... We're not trying to do that in any way. What I want to do is flag interesting events where fund flows move an equity around." - He clarifies that KEDM is an idea generator, not a stock-picking service.
• At 110:14 - "It's not almost like there's inflation there out there, Patrick." - Kevin sarcastically suggests that the widespread commodity rally is a clear sign of inflation.
• At 111:18 - "What I find even more amazing is that he is the world's richest man... This is the guy, if you go and look at his tweets, like my 16-year-old has more sense than this guy." - Kevin shares his incredulous take on Elon Musk's wealth.
• At 116:47 - "Too many people think that trading is all about figuring out the optimal moving average... they don't realize that actually what you are battling is not just the market, but yourself." - Kevin on the psychological importance of keeping a trading journal.
• At 117:58 - "The vast majority has been option writing... that has been probably the single most consistent way I've made money over throughout my entire career." - Patrick explains that "options for income" strategies have been his biggest contributor to success.
• At 123:02 - "One touch 50,000 over the next week." - Patrick makes his bold "Skin in the Game" bet that Bitcoin will hit a new milestone within the week.

Takeaways

• To gain a true understanding of market positioning, analyze fixed-strike volatility rather than relying solely on the VIX.
• Pay close attention when the market and the VIX rise together, as this break in their normal negative correlation signals powerful underlying buying pressure in options.
• Prepare for a multi-decade shift to an inflationary, fiscally-driven market regime where quantitative models based on the last 30 years may no longer be reliable.
• In the early stages of a finance career, prioritize mentorship and knowledge acquisition over immediate compensation.
• If you repeatedly miss opportunities in a specific strategy, create a system to track and execute on those ideas methodically.
• The real edge in event-driven investing often comes from anticipating how fund flows will move a stock in response to a catalyst.
• A trading journal's greatest value is in documenting your emotional state to help you master the psychological battle of trading.
• Understanding that dealers are structurally short puts helps explain the predictable hedging flows that can influence market direction.
• Broad, simultaneous rallies across the commodity complex (energy, metals, agriculture) are a classic leading indicator of inflation.
• For experienced traders, consistently writing options to harvest premium can be a reliable long-term strategy for generating income.
• Be aware that the dealers' profitable carry trade has hidden tail risk; its unwind can create self-reinforcing market declines.
• Look for opportunities beyond the long-US-equity trade, as strength is appearing in many global markets and commodities.