Market Volatility Bulletin: SPX Moves By More Than 1% In 24 Hours, Making It Difficult For Vol To Drop

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Includes: AGG, DDM, DIA, DOG, DXD, EEH, EPS, EQL, FEX, FWDD, HUSV, IEF, IVV, IWL, IWM, JHML, JKD, OTPIX, PSQ, QID, QLD, QQEW, QQQ, QQQE, QQXT, RSP, RWM, RYARX, RYRSX, SCAP, SCHX, SDOW, SDS, SFLA, SH, SMLL, SPDN, SPLX, SPUU, SPXE, SPXL, SPXN, SPXS, SPXT, SPXU, SPXV, SPY, SQQQ, SRTY, SSO, SVXY, SYE, TNA, TQQQ, TVIX, TWM, TZA, UDOW, UDPIX, UPRO, URTY, UUP, UVXY, UWM, VFINX, VIIX, VIXM, VIXY, VMAX, VMIN, VOO, VTWO, VV, VXX, VXXB, VXZ, XVZ, XXV, ZIV
by: The Balance of Trade
Summary

While close-close action looks sleepy, SPX has actually covered a decent amount of ground in the last 24 hours.

Falling yields are a forecast for dimming economic growth, but they are also stimulative.

VXXB term structure has flattened out a great deal, making vol opportunities relatively more attractive in the middle of the curve.

Market Intro

CNBC: 12:07PM EST

Despite the apparent lack of net activity since Wednesday's close, S&P futures (SPY) have undergone a decent amount of activity over the last 24 hours (low of 2,795, and high of 2,824). Spot VIX has dialed up a touch and will take cues in no small part based on intraday index action.

Despite the large drop in yields here in the US, the USD (UUP) is continuing to hold up pretty well in relation to its peers. It bears remembering that US yields are still significantly higher than rates in most other developed economies.

Thoughts on Volatility

CNBC

The US 10-Yr yield (IEF, AGG) sits at new 52-week lows, touching 2.34% this morning. 52-week highs on the TNX were near 3.25%, with most of the plunge taking place over the last six weeks or so.

This is a classic "glass-half-full" kind of situation. On the one hand, yields are likely falling (and at a rapid clip) because the outlook for the US economy is dimming.

The other side of the coin here is that the plunging yields are themselves stimulative for the US economy, such as potentially bolstering house purchases and/or refinances. It also coincides with a Fed whose messaging has pivoted quite dramatically in the direction of being more accommodative.

I like to follow the work of both perennial bulls and bears just to see what's catching their eye. Urban Carmel (a bull) regularly puts out some interesting facts/graphics, and he is here messaging followers that the S&P's technical pattern currently favors a bullish outlook.

It's reasonable to take this view, but we also need to remember that the future is not the slave of the past. Valuations are high (see comments below), rates are already low, and the global economic outlook appears to be dimming.

Q1 2019 has really been a triumph for risk assets. It shares some commonalities with Q1 2016, whose first half was terrible, but then suddenly segued into a complete recovery.

Now, just as then, asset values across a host of available metrics were rather stretched. I do believe that the next 10-20 years will likely see very poor index returns coupled with meaningfully higher realized and implied volatility.

But the key there is "over the next 10-20 years". Valuations can matter a lot in the long run, but are practically worthless in the short run. One always has to face the market that's in front of them. For now, it looks like the environment is one of skittish but gradually declining volatility.

Term Structure

No real change in the VX term structure over the last couple days. VIX9D sits just a touch below spot. HV10 > HV20 > HV30, due to last week's flare up (last Friday the SPX closed down nearly 2%).

We've seen decent evidence over the last month or so for how the VX term structure may gradually descend, with contango steepening out, but then quite rapidly reverse on any clue that the current state of realized vol is in fact too placid.

To some degree that's just the nature of vol at all times for all markets. I think that we're just in a more exaggerated state of that condition at present.

Good on the Skew index for more or less getting last week pretty accurately. Stocks did in fact dip en masse and have since calmed down. Clearly the last week has seen more drama than most of the quarter, but at least thus far short-vol positions (SVXY, ZIV) have confidently settled the action without much trouble.

Current Skew is telling us that the upside looks pretty good from a symmetry standpoint. We're presently witnessing some of the lowest skew readings of the last couple years, which does favor the short-vol outlook.

MarketChameleon.com: VXXB options implied volatility term structure

For those who are long volatility (VXXB, UVXY), I want to draw attention to the changing nature of the VXXB options term structure. We've seen quite a flattening on implied volatility for this product in relation to where it was in the fairly recent past.

Even in comparison to six months ago (end of Sept. '18, just before the markets started to get jittery), the front end of the VXXB term structure is quite high (about 7 vol points higher). The other side of this is that long-end vol for VXXB is substantially cheaper than it was in Sept. '18, and really not much higher today than it was a month ago.

For those looking to go long volatility, buying calls a little further back in terms of maturity may serve them well. Obviously, there are so many variations (spreads, different strikes, etc.), so I'm not stating that one should just buy a naked call. But I am saying that there's been a shift and that should probably be taken into consideration for those who use options as a way to obtain exposure to this product (there is a thick market for VXXB options).

Wrap Up

If this is your first time reading Market Volatility Bulletin, thanks for giving it a try. If you're a regular, I thank you for your ongoing contributions in the comments section.

Thank you Alan for this substantive response to a tweet that I'd posted about Janet Yellen then vs. now. I have truncated the full post, but I advise that people who take an interest in such matters have a look and click on the two links that Alan provided.

It is easy to mischaracterize the views, statements, and actions of others, especially when one naturally finds themselves ideologically opposed to their basic ethos. I appreciate Alan taking the time to work through the details of what Chair Yellen did or didn't say, complete with references.

Thank you for reading!

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. 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: I actively trade the futures and options markets, potentially taking multiple positions on any given day, both long and short. I also hold a more traditional portfolio of stocks and bonds that I do not "trade". I do believe the S&P 500 is priced for poor forward-looking returns over a long time frame, and so my trading activity centers around a negative delta for hedging purposes.