Market Volatility Bulletin: Will Tax Reform Push Volatility Higher?

by: The Balance of Trade


Yesterday market participants managed to knee-jerk the S&P higher at mid-day yet again.  Any end to this response?

Treasury budget data due out on Monday - will tax policy move volatility markets in the weeks and months ahead?

The ES options market really firmed up over the last week in a powerful way.  The quarterly contract held tight, which we think portends for a vol-bias higher up ahead.

For those who didn't see the video we put out in yesterday's MVB, we have a replay for your benefit.

Thoughts on Volatility

Now Don't You Worry!

Georgy Uspenskiy shares a witty commentary with accompanying visual with readers on Twitter after yesterday's price action. Indeed this knee-jerk recovery pattern has been an important action of the "price discovery process" over the last couple months… always seeming to resolve itself with higher prices.

Just the previous day, we heard this from elmono and reecea:

The question that becomes more interesting to my mind is how one explains this rather consistent phenomenon. Its consistency of late is quite compelling.

My assessment is that low vol at some point becomes self-reinforcing. Perhaps it's due to options rebalancing (we've got high weekly SPX option volume in a low-volatility environment). Perhaps algo-trading or "buy the dip" taken to an extreme.

We get a pretty nice range of ideas from readers here at MVB on the matter, and we're interested in your thoughts as to why this pattern has been so persistent.

Market Mover?

Source: Bloomberg

Last fiscal year, ended in October, the US Treasury recorded a $665.7B deficit. To my way of thinking, given the reality of low rates, rising GDP, and low unemployment, that's a pretty high figure.

This is especially true when the GOP is working feverishly to pass tax reform. Should it really be in the neighborhood of 3% given the current features of this economy?

Two questions for readers:

  1. Any technical traders see anything interesting about this chart formation? (I'm serious)
  2. I'm curious as to readers' view on tax reform from the standpoint of whether it will act as a tail wind to SPX volatility over the next six months or so

Spot VIX

In the video we recorded up top, we spoke some about last Friday's action (first highlighted area). We also spoke to very large spot moves in percentage terms given the lack of action in SPX. November 9th really does appear to be last Friday in reverse: a sharp kick higher on little notice and not too much in the way of price action in the ES.

… trouble is, we really are starting to see more heaviness in the ES, despite the very impressive recoveries like we saw yesterday. In contrast with the question we asked about the resilience of the market, we are seeing evidence of greater heaviness. The rebounds are consistent and powerful sure, but the S&P has so far been able to translate this into further gains for any length of time.

Well let's get that sweet organic ATM ES vol out then!

Actually, a lot's happened in this set of markets over the last week. We reported on November 3 that the weekly and monthly contracts had buckled (this on the date that spot VIX recorded a record low), while the quarterly contract did not budge.

Now, we have a weekly contract holding out about the monthly (read Column II, Row I vs. II), and the quarterly has scaled higher from last week.

Usually Weekly leads Monthly leads Quarterly in terms of vol, not the other way around. Of course this is not a rigid law, but it certainly has been what we've observed in force at least since Brexit's failure to ignite a vol blow-up.

We recommend keeping an eye on the ES options market to get a better vantage point as to what volatility traders are seeing.


If this is your first time reading Market Volatility Bulletin, thanks for giving it a try. If you're a regular, we thank you for your ongoing contributions in the comments section. As always, trade ideas, questions, and general sharing are appreciated.

For a variety of reasons, we are tinkering with the format of the bulletin to make the experience maximally relevant and readable.

We just put out a piece on SA a couple days ago, urging readers not to rush to judgment on new Fed chair appointee Jay Powell. The reality is that it will be some time before we truly get a taste for what kind of Fed Chair Mr. Powell will be. While I definitely have my reservations, I believe a case can be made that Mr. Powell has the potential to be an able leader of what may well be the most important monetary institution in the world.

We'll close with the following from DJ Thompson.

DJ speaks to the 12:30 phenom that we referenced via Georgy's Twitter comment at the beginning of this piece. With vol on the rise and ES having a hard time keeping it's sea legs, is anyone changing up their strategies in terms of tightening stops, putting on hedges, that sort of thing?

We welcome your feedback on the matter.

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Disclosure: I am/we are short SPY.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: We actively trade the futures markets, potentially taking multiple positions on any given day, both long and short. It is our belief that the S&P 500 is meaningfully overvalued. As such, we typically carry a net short position using ES options and futures