Talk about mood changes. Flash back to mid-October, when the CBOE Volatility Index (VIX) was screaming north of 31 for the first time in years amid concerns about three Es: earnings, the economy, and the Ebola outbreak. And now? Anxiety has apparently eased, with most measures of volatility, including VIX, well off those highs.
Such a change begs a big question. Can we expect another period of quiet trading into the holidays, or is this a lull before a storm?
First, a little recap: VIX tracks the implied volatility priced into relatively short-term S&P 500 Index (SPX) options (its recent chart moves can be seen in figure 1). Now, VIX did edge up just over 1% last week alone, an up-move that oddly came in step with the fourth straight higher weekly close for the SPX.
But if we expand our view, other volatility indicators perhaps indicate that the sentiment shift is widespread. For instance, as the broader VIX has dropped nearly 40% over the past month, the NASDAQ Volatility Index (VXN) was down a hefty 29%. Implied volatility in the Dow Jones Industrial Average (DJIA), as measured by, you guessed it, the DJIA Volatility Index (VXD), shed 18.3%. Not to be outdone, implied volatility in the small caps, as measured by the Russell 2000 Volatility Index (RVX), was off by a significant 23.7%.
Figure 1: The CBOE Volatility Index (VIX) spiked above 31 in October for the first time since late... [+]
Global Exhale?
It’s not just in the U.S. that market sentiment measures have changed from earlier in the fall (see figure 2). To highlight a few, the Emerging Markets ETF Volatility Index (VXEEM) has fallen 25.6% in just a month, while the Brazil ETF Volatility Index (VXEWZ), a potential bellwether for the Latin American economic and market climate, has been cut nearly in half.
Commodities sentiment is worth watching, too. The crude oil volatility index (OVX) shed 11.2% from October 14 to November 14. Gold volatility is the only measure that moved higher in this one-month snapshot: The Gold Volatility Index(GVZ) is up 30% over the past month as gold prices have been falling sharply and dropped to three-year lows two weeks ago. Plenty of factors can drive gold selling, but general confidence in stocks and the economy can usually be counted among the catalysts. Still, don’t get lulled to sleep when it comes to inter-market relationships. Interestingly, GVZ was a big mover Friday, even as gold shot $27.50 higher to $1,189 an ounce. The gold “VIX” was up 2.4 points to 23.38 Friday, in fact making a stab at 2014 highs. So, although volatility in the equities market has receded, some assets (like gold, oil, bonds, etc.) are not seeing the same precipitous decline.
Figure 2: Table comparing leading measures of market volatility. Data source: CBOE. For illustrative... [+]
Crowd Control
One reason for the decline in VIX and other measures of volatility for the equities market seems to be a return to normalcy in daily trading activity. Not only did volatility spike in October; so did volume. The options market, for instance, saw its second busiest month on record in October 2014, according to the Options Clearing Corporation. As the S&P 500 logged average daily moves of more than 18 points, daily volume across the options market was a historically strong 21.7 million contracts.
By contrast, in the first half of November, volume is less than 16 million puts and calls per day. Against that backdrop, the average swing in the S&P 500 has been about 3.5 points. It finished flat Friday and moved less than 2 points last Tuesday, Wednesday, and Thursday as well. Since VIX tracks the expected volatility priced into S&P 500 options, its decline is probably somewhat related to the decline in “real” volatility—that is, what’s taking place in markets right now.
Next Driver? Perhaps Housing
What might shake things up again? There’s always the chance for an overseas influence as Europe and Japan wrestle with stagnant economies and geopolitical tensions potentially bubble just below the surface. As for the domestic picture, focus this week turns to industrial production, housing, manufacturing, and inflation (see the full economic calendar in figure 3). The release of minutes from the Federal Reserve’s October meeting will be scrutinized Wednesday. That was the meeting at which officials announced an end to quantitative easing (QE), which of course was the extra-bond-buying economic boost that had lubricated the economy for many months. Investors are now wondering if officials have plans for interest rate hikes and just when they might put those plans in motion. The minutes might hold some clues.
The earnings reporting period is slowing, but still churning. Dow component
Target (TGT), Gap Stores (GPS), and others report later in the week. Those results could help shape expectations for Black Friday (Thursday, let’s admit it) and the online and in-store holiday shopping sales that are now just around the corner. We can’t talk about consumer wallets without keeping tabs on falling oil and gasoline prices. Crude contracts fell to multi-year lows of $75 per barrel last week. Do they have more room to fall? And at what point does too-weak oil stir up a whole different set of economic concerns?
Good trading,
JJ
TD Ameritrade, Inc., member FINRA/SIPC. Commentary provided for educational purposes only. Past performance of a security, strategy, or index is no guarantee of future results or investment success.
Inclusion of specific security names in this commentary does not constitute a recommendation from TD Ameritrade to buy, sell, or hold.
