Finally, Investors Get Punched by Volatility - Barrons

Discussion in 'Wall St. News' started by ajacobson, Feb 3, 2018.

  1. By
    Steven M. Sears
    February 3, 2018
    Everyone has a plan, until they get hit in the mouth.

    Investors should consider Mike Tyson’s observation about boxing after last week’s stock market drama. The kerfuffle certainly hasn’t delivered a knockout blow, but the volatility rattled many investors, especially as bond yields increased and stock prices declined.



    The CBOE Volatility Index, or VIX, is at its highest level since November 2016, and seems “sticky,” to use trader talk to describe price behavior.

    On Friday, the fear gauge closed at 17, a level still below its long-term average of 19, and psychologically seemingly eons away from those recent sub-10 levels when it appeared as if Standard & Poor’s 500 index options volatility might be stuck in the single digits.

    Now, the message from the S&P 500 index options market is one of change, asserts Julian Emanuel, BTIG’s chief equity and derivatives strategist.

    OPTIONS INDEX PRICING suggests investors are no longer driven by FOMO, or fear of missing out, a stance that basically entails selling puts, buying calls, and purchasing stock to ride the market’s extraordinary rally. Now, Emanuel believes investors are being held hostage by Fomud, or fear of movement, up or down.

    His proof: Compared with at-the-money options, out-of-the-money puts and calls are trading near their highest prices since the financial crisis. In other words, investors are hedging portfolios, and buying upside calls.

    Emanuel told clients before Friday’s dramatics that the generalized rise in the VIX as stocks have risen—normally, the fear measure retreats as stocks advance—suggests change.

    If he is right, the CBOE Volatility Index’s current increase is the finale to 2017’s low volatility and the start of a more volatile, late-stage bull market that is consistent with economic acceleration and rising rates. Moreover, it has been more than a year since the market experienced a 5% selloff. His conclusion: A near-term correction seems likely.

    Within the S&P 500 index, options on component stocks are becoming more expensive, which might suggest that investors think the future will be more erratic than the past.

    According to Goldman Sachs, the average S&P 500 one-month implied volatility is 23, up one point over the past month, and currently at a one-year high.

    “Implied volatility has now risen for five weeks in a row and sits at its 80th percentile, relative to the past five years,” the bank’s derivatives strategists told clients in a recent note. In short, this is evidence that investors aren’t so certain as to what may happen next.

    Many were likely blindsided on Friday when the market took a sharp dive in response to a rise in bond yields. What’s next? Some fund managers have been noting that value stocks, which have long been shunned, outperform growth stocks in rising interest-rate environments.

    So it isn’t particularly surprising that some major investors are positioning themselves for options volatility to rise, and for stock prices to decline. This type of speculating in calls on the VIX is always present, but the size and tempo seems to be increasing.

    Last week, for example, an investor bought 50,000 VIX March $27 calls for 49 cents per contract. The trading suggests that the investor expects the VIX to surge by the March expiration. The trade is also notable for its size, and for its bearishness.

    And, as always, investors continue to buy VIX $20 calls that expire within a few months. Their aim: to catch any volatility pops that may deliver a punch in the mouth to anyone who isn’t prepared.

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    STEVEN SEARS is the author of The Indomitable Investor: Why a Few Succeed in the Stock Market When Everyone Else Fails.
     
    CALLumbus and aldrums like this.
  2. aldrums

    aldrums

    Great news for traders! I think I’ll buy a little VXX the next time it sells off. Maybe the greatest downtrend of all time is finally over.
     
  3. tomorton

    tomorton

    Journalists love a good story. Even when there isn't one.
     
  4. aldrums

    aldrums

    I know what you mean. I haven’t been able to watch CNBC for 15 years. But volatility is picking up. We’ll see if it gets crushed again.
     
  5. dealmaker

    dealmaker

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    tomorton and aldrums like this.