Weekly Volatility Tracker: Confidence-Building Measures Still Needed

Volatility Tracker for the week of October 19, 2009

The time to write "the fear is gone" stories will be with a VIX at twelve, not twenty-two.

A story in the financial press on Friday featured a few quotes from traders claiming that a lower VIX means that equity holders aren't as fearful as they used to be. While that observation is true, it's also rather banal.

Levels of human fear and concern are squishy, qualitative factors; every quantified implied volatility index, on the other hand, still registers expectations that, years ago, would have been regarded as warnings. The Implied Daily Move table (below) shows in price and percentage terms the movement that current option prices across several asset classes imply for 68% of trading days.

For example, if the current VIX reading is to be believed, we can fairly expect to see moves of 1.35% or more in the S&P 500 two out of every three days. But we're clearly not seeing that kind of price behavior, and haven't for some time. Both the excessive implied daily move and the upward-sloping VIX futures term structure [7] don't necessarily entail that options are currently overpriced, but they do suggest that there is a persistent bid in volatility that is not dissipating.

In international relations, states use "confidence-building measures" to reduce fear and build trust in other parties, often by sharing information or conducting joint military exercises. The federal government have been engaged in their own project of confidence-building for over a year now and, if anything, the persistent volatility premium recorded in these indexes looks like a sign that confidence has not yet been restored.

Comments

[Dave Wrixon:]

The confidence measures that are needed are Reduced Federal Deficits, More Fed Transparency and improvement in Federal Government Statistics.

Oct 19 02:06 PM