The big action today was in the price of gold. Stocks managed to eke out a new high but gold was really the kicker. Maybe the threat of inflation is back in the game but gold for sure was up around 3.5% today. We had looked at gold volatility in the Option Pit Chat this week and we thought it looked cheap. The 10 day straddles were pricing a 2.10 move and the move today was 4.27. So much for the implied volatility being correct.
The Fed is staying the course and winding down their bond buying program. We have some higher short term rates but lower long term rates on the horizon as growth is better but still slow. That is exactly what the Fed wants. Slow and steady wins the race and for now stock like the news. Maybe we can catch a bit more rally if we can put the Middle East genie back in the bottle. For now VIX is taking a thumping as the good economic
As we move into the FOMC minutes release VIX is down around .43 today to 12.21 at midday. In reports past the VIX has generally held steady up to the report but 2014 is starting to look different. The FOMC is probably going to continue to exit their bond buying routine and let the economy stand on its own. They might even signal rate hikes sooner. With the inflation report today it would seem the market wants some inflation.
The FED has its next interest rate announcment coming up on Wednesday afternoon. While it is likely to be a non-event, that does not stop the market from pricing in some risk (as it should). Thus, over over the last few days we have watch the VIX slowly creep higher from a low below 11 to now approaching 13%. The pattern is clear
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As we move into the end of the day, the week is punctuated by a real bout of weekend risk. Namely what will happen in the sands north of Baghdad as bad guys once again try take over a country? The Middle East has had their share of crises over the last decade but this one will be noteworthy for the lack of follow through on the part of the volatility markets.
If one throws a frog in boiling water, the frog will immediately jump out. If one puts a frog and slowly turns up the heat, the frog will boil to death because it won't recognize the change in heat in time to jump out of the pot. That seems to be the way traders are treating 10-15 point moves in the SPX. When the SPX was was in the 1100's or 1200's (way back in 2012) a 15 point move was about 1.25%, the equivalent of a VIX near 20%. Take a look at how big today's 13 point move was in percent terms:
Last week when the ECB made its rate and monetary announcements, FX option vols got completely crushed. Killed so badly that they touched low levels that we have potentially never seen. Now that vols made that kind of move, it is possible that we may have found the absolute floor in FX option vols. Take a look at a chart of FXE.
Just because something is priced low, doesn't mean it's cheap. Look at term life insurance, it costs almost nothing, but is NOT cheap because almost nobody collects on it. The same can be said for the VIX. In historical terms, the VIX is priced at a low level, a level it could be at for a while. Making matters worse, is that the VIX, while low, is not NEARLY as low as actual market volatility. Take a look at the chart below which shows 10 day realized volatility vs 30 day IV.
At least for now VIX hit rock bottom on Friday. There are several components to the volatility complex and VIX is just one of them. As far as the volatility futures are concerned they did break lower today for a while. VXX, which is made up of volatility futures, touched below $30 to record a new low for the year.