Volatility Measures Suggest a Storm Over Medium Term for Equities, FX, More
- Despite holiday conditions, short-term and long-term deflated volatility measures; medium-term VIX has risen quickly
- The volatility of volatility index (VVIX) has swelled to levels that suggest a sensitivity to sudden developments
- Activity measures have risen across most asset classes - is this concern of a tide change?
The market's favorite volatility measures come with their fair share of flaws. However, the financial weather updates they offer are worth monitoring for periods of storm and calm. Over the past few weeks, there has been a ground swell in the implied volatility indicators for many of the different asset classes. That is unusual given that the most recent jumps in the equity-based VIX, currency-derived EVZ and others was based on high profile events like the US election in November and the UK's Brexit vote in June. Activity in the markets itself can motivate expectations of further volatility - as with January 2016 and the market collapse in August 2015 - but there is very limited evidence of such a price-derived motivation currently in the market. Tentative and measured technical progress for the likes of the S&P 500, Emerging Market ETF and Yen crosses don't seem to carry the weight of the markets' full conviction.
A particular complication to channeling a steady rise in activity for the markets is the conditions immediately in front of us - we have waded into holiday trade. Many western markets are offline Friday and a majority of the most liquid European hubs will be out Monday. While not impossible to generate traction in such conditions, it is very difficult. Yet, the signals we are seeing in these anticipated activity gauges may account for that. Looking at measures for different time frames, it seems there is a particular assumption of risk around the time frame of a month forward. That is the standard time frame for the VIX, EVZ, VEEM (emerging market), GVZ (gold) and others that we typically track. However, from the short-term measure for the equity market (VXST, one-week) there is little more than a hum above extreme lows. Further, the longer-term gauge for three months forward (VXV) is coming off an deeper extreme and further from even 'normal' levels.
Perhaps what is most remarkable about the development of these measures is the signal it sends about the market's sensitivity to risk. Rather than guaranteeing a jolt or lasting charge for activity, perhaps it reflects a souring of conviction that can prove a catalyst for any unforeseen cracks in the fundamental picture. The backdrop of this growing skepticism is something we have been keeping close track of for some months. Record highs from US equities have been met with as many headlines voicing the unusual nature of the move as the justification pieces. A deterioration of trade relations jeopardizing global capital flows, the collapse of support from monetary policy, the tepid backdrop for growth and any range of themes can sow the seeds of divesting and even fear. A measure of the sensitivity to threats may be the 'volatility of volatility' index (VVIX) which has surged faster than the VIX itself. We update on the state of volatility and its picture of the markets in this holiday Strategy Video.
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DailyFX provides forex news and technical analysis on the trends that influence the global currency markets.