Rates Volatility Shrugs as Korea Saber-Rattling Pummels Stocks

(Bloomberg) -- The North Korea standoff may be stoking volatility in assets from stocks to currencies, but the rates market is taking developments in its stride.

True, Bank of America’s MOVE Index -- a gauge of volatility in the U.S. Treasury market -- has been rising, but it’s barely reached the highest in a few weeks. As President Donald Trump and Kim Jong-Un dial up their war of words, Treasury skews show traders may be hedging their short bond positions.

The subdued volatility is in stark contrast to equities and currencies, which have been rocked by this week’s escalating tensions. On Friday, Trump tweeted that military solutions were “locked and loaded” should North Korea act unwisely.

Here’s a look at how the gauges are playing out across the rates market -- and elsewhere:

Even after this week’s increase, the MOVE Index has fallen 20 basis points this year, showing that investors have been largely unperturbed by bouts of geopolitical tensions. The CBOE SPX Volatility Index, the equivalent gauge for equities, has reversed declines for 2017 thanks to this week’s surge.

Market participants used a small uptick in Treasury volatility before Thursday’s 30-year auction to position for a decline, while there was also interest in hedging earlier in that day’s session, according to Chicago traders.

The escalation in geopolitical risk caused the skew between payers and receivers on 10-year Treasury yields to fade to zero. At the start of the year, the skew was eight basis points amid optimism that surrounded Trump’s fiscal agenda.

It’s a similar story in German bunds, where volatility has also been limited. In an echo of the Treasury positioning, the of call options for bunds has jumped as investors look to hedge against a more severe risk-off move. They had recently been selling calls and buying puts expiring in October, which covers the next European Central Bank meeting. However, this position has come under some pressure.

It’s not so calm in equities, where the biggest sell-off since May sparked an unprecedented rush for protection in the options market. About 2.6 million puts and calls tied to the CBOE Volatility Index changed hands on Thursday, the most on record, as the VIX spiked 44 percent to close at the highest level since Nov. 8.

There may be some consolation though: spot contracts on the volatility gauge are now more expensive than futures up to five months out, a situation which history says should revert.

Meanwhile, volatility spread through the currency market amid typically low August liquidity. The implied measure for the Japanese yen against the U.S. dollar jumped to the highest level since March, while that for the euro rose to the steepest since April earlier in the week.