Goldman Sachs is doing a bit of what they call "volatility reconnaissance."
Krag Gregory and his team of quants say that signals from the options market suggest that traders and investors are looking for a favorable outcome from central bank meetings this week, with the Federal Reserve set to make a policy statement on Wednesday followed by the European Central Bank on Thursday.
Gregory says that "if the options market was truly worried about a risk off event we would expect to see hedgers buying put options moving into this week’s news releases." (Buying a put reflects a bet that the S&P 500 will fall, or at least a hedge against such an occurrence.) However, participants in the options market are buying more calls instead, reflecting bets that the S&P 500 will rise in the near term.
Gregory writes in a note to clients:
Given a less than stellar earnings season, and little to cheer about on the economic front, investors will be looking for signs of an inflection point in the global economic data, signals of QE3 from the FOMC, and action from the ECB this week. In our view the primary focus will be on Thursday’s ECB meeting. After last week’s comments from ECB President Draghi, the S&P 500 ended the week up 1.7%, 3.6% over Thursday and Friday alone and the VIX landed at 16.7.
What is the options market telling us? While investors remain cautious, at the end of last week we saw a substantial increase in call buying to cover existing shorts and to hedge under-weights. S&P 500 call volume was 65% above its 2012 average last Friday and the put/call ratio tanked, signaling little demand for downside hedges. Those data points coupled with implieds below realized, low skew, and steep term structures, all point to a market either expecting good news this week or perhaps more likely, a market afraid to press a short ahead of a potentially action packed policy week.
Here is a chart showing the put/call ratio Gregory mentioned above, showing that the number of puts being bought relative to calls has plummeted:
Goldman also recently put out a big chartbook updating clients on the state of the global economy.
