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Market Volatility Bulletin: What 'Trade War' (And Why Is It Growing)?

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Includes: AAPL, DIA, GOOG, GOOGL, IWM, SPY, UVXY, VXX, XLP, XLV
by: The Balance of Trade
Summary

Vol is low and stocks are arguably keyed to venture farther north.

What about those trade concerns?

SPY vol trading essentially in-line with defensive sector vol.

Market Intro

CNBC: 11:05AM EST

The Dow (DIA) has surpassed the 27k mark, while the SPX (SPY) has a good shot at closing upwards of 3k. As we'll see below, the Russel (IWM) seems to have strong prospects.

Spot VIX is holding its own in the 12-13 range.

Side note: wouldn't you love to be able to do this basically anytime you liked and still be considered the "risk-free asset"?

Thoughts on Volatility

What trade war? According to White House Trade Advisor Peter Navarro, a lot of the stories that swirl around in the media are garbage.

Politics aside, that's probably true. And maybe that's why the financial markets are currently brushing aside the current headlines.

Trade concerns had volatility primed and markets churning through May and a good chunk of June... that ship seems to have sailed. I expect before any trade agreements are completed, however, we'll have at least a few episodic outbursts associated with this theme.

Not only that, but it's possible that we may be seeing expanding fronts on tariffs and taxes.

Do consider that the drumbeat of many has been that the tariffs are really just a way of taxing ourselves. If that's true, then won't it also be the case that French calls to tax American tech giants like Apple (AAPL) or Google (GOOG) (NASDAQ:GOOGL) won't really amount to <yet another> tax on the French people?

I'm very open to the idea that there are nuances that separate different situations... sometimes by a great deal. But I think we need to be very careful when markets and politics merge, as it is very easy to fuse our economic and/or market interpretation with an unhealthy dose of our political views.

For the July 19th, 26th ATM, Russell 2K calls are a bit more expensive than the corresponding puts. Definitely it's possible that the RUT was trading just a touch in the money (call side) when this screenshot was taken, which would make the calls pricier.

Too many variables to really opine here, but skew is reasonably balanced, and I think there's plenty of room to believe in a further upward journey in the indexes, and maybe even some runway for a blow-off top (I'm thinking along the lines of late Nov '17 through late Jan '18). SPX skew is on the rise, but still at the low end of its range, which further supports this scenario.

Term Structure

The July VX contract trades its last full day this upcoming Tuesday, before expiring Wednesday morning for a cash settle against spot VIX.

Look at the premium that spot trades over HV20. Ask yourself, are the vol markets calling for stormier seas ahead? My thinking is more or less 'no'.

If my view holds, then spot VIX likely continues to dip toward a lower premium over HV, which itself unnervingly may dip into the mid 5's.

For those who trade spreads, the short M2, long M3 looks pretty appealing here.

Long-vol players (VXX, UVXY) are paying a steep roll yield, and the VVIX is popping a little to confirm this view (up from below 80 over the last few days), but the index is still printing in what we might term "the complacent zone".

If you are trading long-vol, I'd really encourage you to be just playing for base hits here, unless you're looking for some exogenous event that will cause deep technical damage to the indexes.

Marketchameleon.com: XLP (teal) IV vs. SPY (red) IV; XLP one-year price

That's not at all to say that the broad SPX isn't overly complacent...

We've got pretty steady yields at the moment, which tends to calm down the defensive sectors such as the staples (XLP) or health care (XLV). Note that XLP is also trading at one-year highs, but the SPY vol looks to be making its way to parity with XLP vol.

Again, I'd stress here that we're in a lowish-rate environment. This suggests some complacency to me in the broader markets.

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.

Atom&Humber posted this in response to the Fed Recession Indicator that I displayed in the prior MVB. We certainly share the concern that as the Fed pivots toward metrics based on the financial markets, "it's all circular", to quote a&h above.

Thanks 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.