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With a lack of impetus to drive stock prices, equity markets consolidated but continued to grind higher eroding implied volatility. The slide of the VIX is consistent with the view that the ECB has reduced the recent concern over European banks. The idea that the US Federal Reserve has their hands tied and is very likely to embark upon a third round of quantitative easing is placing a floor under US stocks, reducing the need for portfolio protection.
The consolidation in the equity markets has created significant headwinds for the VIX volatility index. There has been a recent lack of interest in portfolio protection which has eroded interest in the VIX. The VIX declined below support levels near 16, which was the neck line of the relatively large head and shoulder pattern the index was former. The next target for the VIX is 14, which is equal to the lows seen in mid March of 2012.
Momentum on the VIX is clearly negative with the MACD (moving average convergence divergence index) printing in negative territory. The MACD created a sell signal in early August when the spread * the 12-day moving average minus the 26-day moving average) crossed below the 9-day moving average of the spread. The RSI on the VIX is printing near 40, which is on the lower end of the neutral range.
The currency markets have consolidated along with the equity markets as many investors believe comments out of ECB president Mario Draghi has calmed the investor community. Our trade idea which was a directional upside view that the FXE ETF (Euro currency trust) would break to the upside was met with resistance. The lack of upside momentum drained value out of the 126 calls, which were recommended. Although volatility will likely come back to the currency markets, the summer has drained volume which will likely keep the Euro in a tight range for the balance of the summer.