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Good morning partner,

Few things to cover this morning:

Yesterday’s Session

A new understanding is being felt across the market, as the Situational Awareness bailout has shifted the market fabric for the foreseeable.

As leverage and underlying volatility in most of the AI trade has been significantly reduced, hedge funds and other institutions are able to buy back into these companies with more leverage and a much lower cost.

In the world of institutional trading, hedging is less of a requirement when volatility declines in this manner.

So, you begin to see software and AI names go up together now, because software is no longer a required hedge for the AI trade (guessing the “AI will kill software” narrative will die off too.)

For the real economy, there seems to be a push higher for the most part as well, pausing the previous tug-of-war that was seen between concentration days and breadth days.

This is a major shift folks, and if I told you I understood it entirely I’d be lying to you.

One thing remains clear though, and that is the fact chip/memory names are not participating in this recovery.

I will dig into the mechanical reason why this is, and bring you some alpha there if present.

Let’s take a look at yesterday’s leaders and laggers:

Materials, Healthcare, Comms.

Very interesting to see the spread in sectors yesterday, especially the way industrials sold off the most.

This is where I highlight the importance of understanding the fundamental mechanics of this new market, as materials and industrials must now have some major difference between them to be treated in the opposite manner.

I believe this can be due to the fact that industrials rely more on booked - unrealized - revenue growth dependent on the AI economics continuing to work all throughout.

Materials, on the other hand, are bid as they realize revenues with current orders and deliveries, not a future uncertain story.

That’s the headline.

What’s important is this new behavior led me to find the smartest way to play the AI rebound from here.

Analog to LTCM

I like to study these overlays from time to time, and try to add a few things on top:

If the above analog is at all accurate, I believe we are in the lead-up to when Long Term Capital Management (LTCM) went under and took down the entire bond market with it.

When LTCM was bailed out by other funds, the market rallied as it absorbed the new liquidity and shrugged off the risks that drove the collapse in the first place.

Only to give back ~20% from the highs as the market realized the reason why LTCM failed had nothing to do with bonds, and everything to do with leverage and cheap money.

Situational Awareness and the Citadel bailout look eerily similar to this and other previous cases (Amaranth et Citadel bailout in 2007) leading to the above pattern.

Simply put,

We could see another leg lower from here in technology as the rest of the excess is wiped, only to see one last (may not be the last) hurray rally.

Given GDP and the stock market are now aligned on the same AI bet, I give the leg higher a high probability of happening (as long as the capex boom continues.)

News

Movers & ES Levels

Now let’s get into some ES levels for today.

As explained yesterday, we saw another effortless leg higher in the S&P index.

Similar to yesterday, very little business was done on the way up, meaning both buyers and sellers are once again in agreement of where the market’s “fair value” should be.

And the answer is not lower.

A relatively small amount of business is being done overnight starting at $7,750 though, so this could be our initial support for the day’s auction.

This is a high-risk operation though, as the only stop that exists below sits at $7,630 roughly, where business is likely to get done again.

Even so, there isn’t enough resting liquidity on the profile to absorb all of the potential profit taking that may take place after the best run higher since the Iran War started.

Bulls know this, so do bears.

Buyers want to avoid reaching the $7,630 level by containing any aggressive selling activity at these higher prices.

If sellers step in at $7,630 then we could attempt to absorb the additional volume at $7,435 - $7,450 roughly.

Unless,

Buyers and sellers choose to transact orderly and keep agreeing on “fair value” being higher.

Portfolio

One big change was made this week, as a few of our top holdings rallied too much, too fast (a good problem to have.)

However, it is my responsibility as risk manager to know when to trim a hot position before volatility forces others to reduce before me.

So we trimmed 1/3 out of our two biggest names, realizing roughly 1.7% ($1,700) in portfolio profits with 2/3 of the position still running.

By the way, those profits would have paid for over 28 months of Offside Premium.

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This week is likely to bring a new change to the portfolio’s makeup.

After spotting how institutions are playing the AI rebound here, I may end up adding my screened candidates to the mix and boost our growth from here.

Here’s the positioning update for today’s premium members: