Crouching Vix, hidden volatility

Posted by FT Alphaville on Jun 21 16:21. 2 comments | Share

As FT Alphaville has written before, the volatility is out there.You just have to look for it — and not by glancing at industry-standard, the CBOE Vix index.

A point aptly made by ConvergEx recently: More…

As FT Alphaville has written before, the volatility is out there.

You just have to look for it — and not by glancing at industry-standard, the CBOE Vix index.

A point aptly made by ConvergEx recently:

If you only focused on the CBOE VIX Index, you’d be tempted to think that the recent market volatility was pretty modest. The long run average of the VIX, Wall Street’s favorite measure of panic and dread, is 20. Only with [last week’s] move did it lift convincingly over this high tide mark … Even then, more tempest in a teapot than augur of a coming storm. But look at the Implied Volatilities in the options market, and focus that gaze on a variety of sector and asset class Exchange Traded Funds.

Implied volatility data for ETFs can be calculated, ConvergEx says, by looking at listed options for the funds in the same way that the Vix looks at options on the S&P 500.

To wit, here’s some hidden implied volatility:

The high yield bond market is clearly worried about the spate of bearish macro news, far more than equities. Implied volatility is up from 6.1% to 8.6%, or over 40% higher. The HYG ETF, from which we’ve drawn this options data, is down 4.9% for the last month and now down 2.7% on the year in price terms.

In this case, it’s worth pointing out that high-yield corporate bond ETFs have been suffering on account of their superior liquidity when compared to the underlying bonds they track. Barron’s reported last week that a number of funds experienced drops 10 times greater than the actual bonds or derivatives that make up their indices. Understandable, if the moves are indeed connected to bond investors using the products as a quick exit. Though, obviously, not justifiable from a tracking error perspective.

Nevertheless, ConvergEx notes there may be volatility lurking elsewhere too:

Two industry sectors in U.S. equities are also seeing their “VIX” measures rise dramatically – Health Care and Industrials. That’s an odd pairing and merits an explanation. The Health Care sector is usually considered defensive, so when the economy slows investor see this as a safe port in the storm. Industrials are the opposite; they live and die by the global economic cycle. To have both these industry groups see a bounce in their IVs means investors are both worried about the health of the economy (Industrials) and the fundamental prudence of owning even defensive names (Health Care).



Safe-haven assets like gold and silver, meanwhile, are seeing implied volatilities diminish:


It’s not all “doomy-gloomy” out there – Gold and Silver ETFs (GLD and SLV) saw their IVs drop last month. Yep, traders see less risk in holding precious metals in the current environment than they did just a month ago. That comes as little surprise in the case of Gold, where the investment thesis seems tailor made for the current environment. But Silver’s white-knuckle ride since March may finally be over and the “Other white meat” of the precious metals world will now trade more on fundamentals and less on technicals or margin squeezes

The point is obviously that plenty of specific sectors have seen their volatility rise — much more than just looking at the Vix index might suggest. As ConvergeEx writes; “Risk pricing in the options market is getting reset higher.” It’s just that, nowdays, it doesn’t show up so much in the Vix.

Or if it does, it’s probably too late.

By Tracy Alloway and Izabella Kaminska.

Related links:
On the pointlessness of following the VIX – WSJ MarketBeat
The calm before the (volatility) storm – FT Alphaville
More thoughts on what’s behind low volatility – FT Alphaville

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