VXX: MARKET SNAPSHOT: Only A 'black Swan' Will Bring Back Stock Volatility
Ipath S&P 500 Vix Short Term Futures TM Etn (AMEX:VXX)
By Wallace Witkowski, MarketWatch
SAN FRANCISCO (MarketWatch) -- Investors are becoming more accustomed to holding firm during market drops, making it more likely that it will take a true "black swan" event to usher in a return to stock volatility.
After a near 30% run-up in the S&P 500 Index (SPX) in 2013, many strategists were calling for a return to volatility in 2014. Instead, the CBOE Volatility Index (VIX) has generally held to low levels, with the occasional spike past 20, just like in 2013.
As volatility has dropped, stocks have moved sideways: The S&P 500 is up 1.6% for the year and the VIX is down 9.3% for the year.
Russell Rhoads, senior instructor at the Options Institute at CBOE, said investors are expressing a "justified complacency" given that recent jumps in the VIX don't remain at those levels for too long. One-off events, like Ukraine, command investor attention for a while and then fall off the radar, enough to cause the VIX to spike but not enough to sustain the level.
A black swan event in the economy and markets would have a more far-reaching, deeper impact. Author and trader Nassim Taleb used the term to describe rare, hard-to-predict, and high-impact events like the terrorist attacks of September 11, 2001.
For sustained volatility to return to stocks, we'd have to have two crises hit right around the same time, something like a really unpopular Federal Open Market Committee meeting and a fresh Ukraine-like threat to geopolitical stability, without an apparent resolution, Rhoads said.
"We just haven't had that double whammy," said Rhoads. "The smart guys aren't necessarily panicking at small selloffs, and since 2013 they've been right."
Over the past 12 months, the 200-day moving average for the VIX has been essentially flat, currently at 14.38, compared with 14.90 a year ago.
One common misconception is mistaking choppy markets with volatile ones. While markets have been choppy lately, don't expect that to show up in the VIX, Rhoads noted. When trading is directionless, or choppy, it's actually not volatile as measured by the VIX, he said.
Last week, the Nasdaq Composite Index(RIXF) rose 0.5%. It's moved between weekly gains and losses for six straight weeks.
Large-cap indexes are making similar zig-zag moves. The Dow Jones Industrial Average (DJI) declined by 0.6%, reversing from gains the prior week. The S&P 500 ended the week down less than 0.1%, while the VIX declined 3.7% on the week.
What this means for investors is that holding onto those winning broad-market positions from last year has worked --so far. But folks who have tried to hedge with VIX-linked investments aren't smiling. Barclays Bank PLC iPath S&P 500 VIX Short-Term Futures ETN (VXX.U.T) is down 14% this year and 50% over the last 12 months. Low volatility also isn't great for very active traders, who have a harder time finding good opportunities in a dull market.
Bear market grumblings
Debate is still lively whether a bear market is lurking around the corner. Some argue that the meandering market is the grumbling of a bear market that will start with a whimper. Then, there's also a historical precedence for weak markets before the midterm elections during a presidential cycle. And over the past few weeks, there's a been a spike in worry that the selloff in small-cap stocks, reflected in the 10% pullback in the Russell 2000 (RUT) , was the harbinger of a broader retreat.
Read: Stocks are telling you a bear market is coming.
But many have a hard time figuring out what will spark a sustained selloff.
"There's very little evidence that people are positioning for a bear market," said Randy Frederick, managing director of trading and derivatives at Charles Schwab.
Frederick said there aren't too many foreseeable catalysts that will derail the current bull market. There's always the maxim that recessions end bull markets. But few people are predicting one any time soon. There are genuine concerns about China and low inflation in Europe, but without a major negative catalyst bursting on the scene, a drop in stocks is not likely.
Investors have become so desensitized to Ukraine that it will take some big escalation likely involving the United States to make it market-relevant again, Frederick said.
The kind of pullbacks we've seen so far represent good buying opportunities as long as investors aren't chasing the bottom and wait a few days after the turnaround to buy, he said.
Even though the VIX might jump more than 10% in one day, as it did twice in April, snapbacks are just as common the next day, leaving volatility levels low in general.
Low volatility the norm for now
That theme of desensitization was repeated in a recent note from Nicholas Colas, chief market strategist at ConvergEx Group. Colas notes we've become accustomed to central banks moving in quickly to address systemic volatility, so any given 15% drop in the S&P 500 in a month becomes the start of a snapback rally.
"We talk about the CBOE VIX Index quite a bit as a measure of near-term expectations of volatility," Colas wrote. "By that metric, options traders think near dated price action in the S&P 500 will have all the unpredictability of a Los Angeles weather forecast."
But, as Colas is quick to note: "At the same time, it's not the weather in LA that will kill you; it's the earthquakes."
Outside of occasional spikes, Goldman Sachs said in a recent note it expects volatility to remain low for some time. While that makes it harder for traders to seize opportunities, the upside is that it makes options cheaper for directional views and a better replacement for cash positions.
The low volatility forecast for Goldman Sachs, however, is rooted in the assumption that there is more "room to grow" for the U.S. economy after a shaky five-year recovery.
That appears to carry with it a chicken-and-egg effect. Goldman Sachs notes that a sustained period of low volatility encourages U.S. companies to use their massive cash piles to start investing more in their businesses and hiring, as well as engaging in more mergers and acquisitions, all positives, and prerequisites for the economy to grow.
Earnings season drawing to close
Another prerequisite for the economy to grow is sustained earnings and revenue growth. With nearly all of S&P 500 companies having reported results, earnings growth is on track for a 2.1% gain, according to John Butters, senior earnings analyst at FactSet.
While not as high as the expected 4.4% at the beginning of the first quarter, it's much better than the expected earnings decline of 0.4% at the end of the first quarter. Revenue is lining up with the 2.7% growth expected at the end of the first quarter.
For 2014, earnings are expected to grow by 7.8%, with near double-digit earnings growth expected in the third and fourth quarters, according to FactSet.
Only one Dow component, Home Depot Inc. (HD), reports this week. Twenty-three S&P 500 companies release results.
Notable companies reporting this week include Campbell Soup Co.(CPB) , TJX Cos.(TJX) , Medtronic Inc.(MDT) , Salesforce,com Inc.(CRM) , Target Corp.(TGT) , Lowe's Cos.(LOW) , Gap Inc.(GPS) , Dollar Tree Inc.(DLTR) , Ross Stores Inc.(ROST) , Hewlett-Packard Co.(HPQ) , Best Buy Co.(BBY) , L Brands Inc.(LB) , and GameStop Corp. (GME)
More from MarketWatch:
Bill Gross says this is what's really behind the Treasury rally
The best financial advice I ever heard
Stocks are telling you a bear market is coming
Subscribe to WSJ: http://online.wsj.com?mod=djnwires
More VXX Messages
Ipath S&P 500 Vix Short Term Futures TM Etn (AMEX:VXX)
By Wallace Witkowski, MarketWatch
SAN FRANCISCO (MarketWatch) -- Investors are becoming more accustomed to holding firm during market drops, making it more likely that it will take a true "black swan" event to usher in a return to stock volatility.
After a near 30% run-up in the S&P 500 Index (SPX) in 2013, many strategists were calling for a return to volatility in 2014. Instead, the CBOE Volatility Index (VIX) has generally held to low levels, with the occasional spike past 20, just like in 2013.
As volatility has dropped, stocks have moved sideways: The S&P 500 is up 1.6% for the year and the VIX is down 9.3% for the year.
Russell Rhoads, senior instructor at the Options Institute at CBOE, said investors are expressing a "justified complacency" given that recent jumps in the VIX don't remain at those levels for too long. One-off events, like Ukraine, command investor attention for a while and then fall off the radar, enough to cause the VIX to spike but not enough to sustain the level.
A black swan event in the economy and markets would have a more far-reaching, deeper impact. Author and trader Nassim Taleb used the term to describe rare, hard-to-predict, and high-impact events like the terrorist attacks of September 11, 2001.
For sustained volatility to return to stocks, we'd have to have two crises hit right around the same time, something like a really unpopular Federal Open Market Committee meeting and a fresh Ukraine-like threat to geopolitical stability, without an apparent resolution, Rhoads said.
"We just haven't had that double whammy," said Rhoads. "The smart guys aren't necessarily panicking at small selloffs, and since 2013 they've been right."
Over the past 12 months, the 200-day moving average for the VIX has been essentially flat, currently at 14.38, compared with 14.90 a year ago.
One common misconception is mistaking choppy markets with volatile ones. While markets have been choppy lately, don't expect that to show up in the VIX, Rhoads noted. When trading is directionless, or choppy, it's actually not volatile as measured by the VIX, he said.
Last week, the Nasdaq Composite Index(RIXF) rose 0.5%. It's moved between weekly gains and losses for six straight weeks.
Large-cap indexes are making similar zig-zag moves. The Dow Jones Industrial Average (DJI) declined by 0.6%, reversing from gains the prior week. The S&P 500 ended the week down less than 0.1%, while the VIX declined 3.7% on the week.
What this means for investors is that holding onto those winning broad-market positions from last year has worked --so far. But folks who have tried to hedge with VIX-linked investments aren't smiling. Barclays Bank PLC iPath S&P 500 VIX Short-Term Futures ETN (VXX.U.T) is down 14% this year and 50% over the last 12 months. Low volatility also isn't great for very active traders, who have a harder time finding good opportunities in a dull market.
Bear market grumblings
Debate is still lively whether a bear market is lurking around the corner. Some argue that the meandering market is the grumbling of a bear market that will start with a whimper. Then, there's also a historical precedence for weak markets before the midterm elections during a presidential cycle. And over the past few weeks, there's a been a spike in worry that the selloff in small-cap stocks, reflected in the 10% pullback in the Russell 2000 (RUT) , was the harbinger of a broader retreat.
Read: Stocks are telling you a bear market is coming.
But many have a hard time figuring out what will spark a sustained selloff.
"There's very little evidence that people are positioning for a bear market," said Randy Frederick, managing director of trading and derivatives at Charles Schwab.
Frederick said there aren't too many foreseeable catalysts that will derail the current bull market. There's always the maxim that recessions end bull markets. But few people are predicting one any time soon. There are genuine concerns about China and low inflation in Europe, but without a major negative catalyst bursting on the scene, a drop in stocks is not likely.
Investors have become so desensitized to Ukraine that it will take some big escalation likely involving the United States to make it market-relevant again, Frederick said.
The kind of pullbacks we've seen so far represent good buying opportunities as long as investors aren't chasing the bottom and wait a few days after the turnaround to buy, he said.
Even though the VIX might jump more than 10% in one day, as it did twice in April, snapbacks are just as common the next day, leaving volatility levels low in general.
Low volatility the norm for now
That theme of desensitization was repeated in a recent note from Nicholas Colas, chief market strategist at ConvergEx Group. Colas notes we've become accustomed to central banks moving in quickly to address systemic volatility, so any given 15% drop in the S&P 500 in a month becomes the start of a snapback rally.
"We talk about the CBOE VIX Index quite a bit as a measure of near-term expectations of volatility," Colas wrote. "By that metric, options traders think near dated price action in the S&P 500 will have all the unpredictability of a Los Angeles weather forecast."
But, as Colas is quick to note: "At the same time, it's not the weather in LA that will kill you; it's the earthquakes."
Outside of occasional spikes, Goldman Sachs said in a recent note it expects volatility to remain low for some time. While that makes it harder for traders to seize opportunities, the upside is that it makes options cheaper for directional views and a better replacement for cash positions.
The low volatility forecast for Goldman Sachs, however, is rooted in the assumption that there is more "room to grow" for the U.S. economy after a shaky five-year recovery.
That appears to carry with it a chicken-and-egg effect. Goldman Sachs notes that a sustained period of low volatility encourages U.S. companies to use their massive cash piles to start investing more in their businesses and hiring, as well as engaging in more mergers and acquisitions, all positives, and prerequisites for the economy to grow.
Earnings season drawing to close
Another prerequisite for the economy to grow is sustained earnings and revenue growth. With nearly all of S&P 500 companies having reported results, earnings growth is on track for a 2.1% gain, according to John Butters, senior earnings analyst at FactSet.
While not as high as the expected 4.4% at the beginning of the first quarter, it's much better than the expected earnings decline of 0.4% at the end of the first quarter. Revenue is lining up with the 2.7% growth expected at the end of the first quarter.
For 2014, earnings are expected to grow by 7.8%, with near double-digit earnings growth expected in the third and fourth quarters, according to FactSet.
Only one Dow component, Home Depot Inc. (HD), reports this week. Twenty-three S&P 500 companies release results.
Notable companies reporting this week include Campbell Soup Co.(CPB) , TJX Cos.(TJX) , Medtronic Inc.(MDT) , Salesforce,com Inc.(CRM) , Target Corp.(TGT) , Lowe's Cos.(LOW) , Gap Inc.(GPS) , Dollar Tree Inc.(DLTR) , Ross Stores Inc.(ROST) , Hewlett-Packard Co.(HPQ) , Best Buy Co.(BBY) , L Brands Inc.(LB) , and GameStop Corp. (GME)
More from MarketWatch:
Bill Gross says this is what's really behind the Treasury rally
The best financial advice I ever heard
Stocks are telling you a bear market is coming
Subscribe to WSJ: http://online.wsj.com?mod=djnwires
More VXX Messages
