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November 16, 2017 at 08:01 AM
The same week they took on bears who warn low stock volatility is a recipe for high stock volatility, New York Federal Reserve staffers are back with a rebuttal for everyone who says the record-low VIX signals complacency.
Worry not, economists and analysts at the branch wrote in a follow-up
blog post, the character of today’s freakishly low volatility isn’t the same as that which prevailed before the financial crisis.
“This time may indeed be different, at least as measured by market participants’ pricing of risk,” the researchers wrote Wednesday.
The chief difference is that unlike then, investors today don’t expect volatility to stay low forever. Traders who hold longer-dated volatility risks are paying noticeably more than they do for protection in the near term.
This is new — before the crisis, sellers demanded similar returns for one-month and one-year volatility bets. Now there’s a pretty big gap, “suggesting that investors may understand that volatility may increase again in the future.”
To wit: the difference between one-month implied volatility and one-year is currently over 6 percent, about three times the historical average. This means investors expect higher volatility in the future and aren’t sitting on the sidelines with unrealistic expectations of forever-lasting calm.
“Based on this evidence, it seems that, despite the low level of the VIX, investors may not be so complacent after all,” they wrote.
Looking at a VIX-like index with longer-dated options, the authors say the market is “pricing in implied volatility of around 19% in one or two years’ time. It follows that implied volatility is priced to rise rapidly,” they wrote.
Is it good or bad when people prepare for catastrophe?
