Saturday, February 27, 2021

Implied Nervousness

Oren Trask: You've got a real fire in your belly. Or was this just a one-time stunt that you pulled?
Tess McGill: I'm not quite sure what you mean, sir. I've got something in my belly, but I think it's nervous knots.

--Working Girl

When recently looking at option chains for the first time in a while, I was surprised by how pricey out of the money puts and calls were. Usually, when markets are trending higher, call premium is sold and downside protection is shunned--which both tend to suck premium out of options and collapse implied volatilities. 

So I called up a chart of the Volatility Index (VIX). Sure enough, the index is still above 20--nearly double the level that I'm used to seeing in staid markets flirting with highs.

However, given the magnitude of spike in implied vols associated with last year's corona crash, this doesn't appear all that unusual. A similar spike in 2008-09 required a couple of years before 'normal' volatilities (i.e., sub 10 readings on the VIX) returned. It seems we're following a similar path this time.

Note also the parabolic pattern of decline following most volatility spikes.

The lesson is that, once a big volatility event occurs, it takes a while for nervousness among market participants to dissipate.

Friday, February 26, 2021

The Number

Doug Carlin: What if you had to tell someone the most important thing in the world, but you knew they'd never believe you?
Claire Kuchever: I'd try

--Deja Vu

The most important number in the world at this moment, at least from a financial market standpoint, has to be the yield on 10 yr US Treasury bonds. With nearly $10 trillion in fiscal and monetary stimulus created in the past yr (and more on the way), federal debt clocking in at $28 trillion, and world leverage at all time highs, financial markets can ill afford higher borrowing costs brought about by higher 10 yr rates. 

Yet that is precisely what's happening. T note yields have more than doubled off the corona lows and have recently been marching higher on a daily basis.

Sure, rates are still low by historical standards. But policymakers realize that if they lose control of the 10 yr, then the game is up. Thus, Fed heads have been on the tape over the past couple of days trying to jawbone yields lower.

Technically, resistance is just overhead in the 1.5-2.0% zone, so a pause right around here seems intuitive.

Personally, there is no way I'd own long-dated bonds given the field position of rates and a macro set up that screams inflation. Maybe others are coming to similar conclusions.

no positions