Feb

21

Volatility Perks Up, Despite Strong US Economic Data

Filed Under Market Snapshots, Option Trading Articles 

Implied volatility continued to remain supported, as defensive trading surrounding Greek debt issues kept US markets on the defensive for a second straight trading session.  During the past week, better than expected economic data failed to lift markets, which is a sign that the positive sentiment might have lost its momentum after the broader markets have rallied substantially during the first 6 weeks of the new year.

The VIX experienced its first solid rally so far in 2012.  The smooth rally in the equity markets during the first 6 weeks of 2012, has taken a lot of the fear out of the markets, adding downward pressure to the VIX.  The volatility index, which measures the “at the money” strike values of the S&P 500 Index climbed nearly 8%, (or 1.6 points), to 21.14 on Wednesday, the highest closing level in almost 1 month.  The VIX tested resistance near the 50-day moving average at 21.40.  A break of this level would likely target resistance near the 200-day moving average which is currently 26.

The CBOE volatility skew index is a measure of the changes in demand for specific strike prices for the S&P 500 index.  If traders are looking to hedge downside activity, they are usually willing to pay a higher price for out of the money puts, then they are for at the money options or out of the money calls.  On Tuesday, the Skew tested the 52 week high near 131.  This is a reflecting of traders looking to hedge using out of the money puts, which climb in relative volatility when compared to at the money options.

Implied volatility in the currency markets is beginning to rise as the EU and Greece have not been able to close the deal on austerity for a second round of financing.  Implied volatility on the FXE moved higher on during the week, pushing back above the 13% level for the first time in the past 3 weeks.  The calmness in the currency markets was broken early in the week when the Bank of Japan decided to increase its asset purchase program.  The new quantitative easing program added approximately 128 billion dollars of assets, which pushed the USD/JPY up nearly a full big figure.  Implied volatility also jumped nearly one full point.

Toward the end of the week, solid US economic data, kept the US equity markets buoyed, but failed to reduce implied volatility.  Expectations in the options markets is that the US bourses will experience some kind of pull back and that is likely the reason for elevated volatility.  A key impetus will be worse than expected economic data, which will not likely be available until the beginning of March.

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