Volatility Trading Digest - Return To Work
Volatility Trading Digest - Return To Work
Further to our comments in the introduction above here is a bit more detail on the events that should continue to support volatility for the next few weeks.
As for the September record, while the S&P 500 Index declined 9.2% in 2008, it advanced 3.6% in 2009 and 8.8% last year. This year we think the fundamentals events will most likely prevail over any seasonal influence.
On Wednesday before the markets in the US open, we will know the decision of Germany's top court, the Karlsruhe-based Federal Constitutional Court, on whether the government broke the law with last year's bailouts of debt-stricken European countries.
Next the FT reports on Thursday the US Federal Reserve chairman, Ben Bernanke is scheduled to give a speech on the economic outlook five and a half hours before President Obama addresses a joint session of Congress on the employment situation and what his administration proposes to do about it.
Finally back to Europe, on September 29 the German Bundestag or Parliament will vote on the European Financial Stability Facility and presumably, the rules and conditions Germany will impose for further debt support for European countries.
Without the fundamental developments scheduled for the next few weeks, we would expect the implied volatility shown in orange above to decline back toward 20%. However, the events outlined above are likely to keep it elevated.
The implied volatility of the VIX Index has already declined substantially, but could rise again due to fundamental developments and increased hedging activity.
Hedge the Financials
After the news on Friday, that the Federal Housing Finance Agency (FHFA) sued 17 large banks for alleged mortgage misdeeds it could be too late for a meaningful financial sector hedge. However, we are once again reminded what Jessie Livermore said,
"Remember that stocks are never too high for you to begin buying or too low to begin selling."
Financial Select Sector SPDR Fund (XLF)
The current Historical Volatility is 56.90 with an Implied Volatility Index Mean of 44.97, down from 46.01 last week. The IV/HV ratio is.79 while the put-call ratio is very high at 5.0. However, keep in mind, this ETF is used for hedging long stock bank positions. Friday's option volume was 392,766 contracts compared to the 5-day average of 280,850 contracts.
With a debit only 21% of the distance between the strike prices and with good volatility edge, use a close back above the last pivot at 13.50 as the SU (stop/unwind).
All of the suggestions above are based upon last Friday's closing prices using the mid price between the bid and ask. On Tuesday, the option prices will be somewhat different due to the time decay over the weekend and any price change.
Summary
Until Friday, implied volatility had been declining as the equity market worked its way higher. However, with the weak employment report and the legal action against the banks as well as other important fundamental developments scheduled this week, volatility is likely to remain high.
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