Specter of Forced Selling Sinks Risk Appetite as Stocks Tumble

(Bloomberg) -- Investors slammed the eject button without a clear and immediate catalyst on Wednesday morning, turning what was poised to be a positive open into a sea of red.

S&P 500 e-mini futures were higher by 0.2% at 2,881 at 7:40 a.m. in New York, before trading activity jumped out of nowhere five minutes later. The contracts turned negative at 8 a.m., and extended declines to as much as 1.8% after the regular open of markets. They were down 0.9% at 10:21 a.m.

The abrupt nature of the moves may be the manifestation of what Wall Street had warned about: deleveraging by systematic investing strategies that use volatility as an input to guide their exposure to the markets, and typically operate with a lag of one to two sessions.

“It could easily be target vol deleveraging,’’ says Steve Sosnick, chief options strategist at Interactive Brokers. “And if so, that could be persistent and dangerous -- there is a negative feedback loop inherent to that process.’’

Pravit Chintawongvanich, Wells Fargo’s equity derivatives strategist, warned on Tuesday that risk control strategies and trend followers had roughly $65 billion in equities to sell over the next two sessions in light of the spike in volatility.

“Those kinds of unexplained moves are often just someone getting tapped out,’’ said Kevin Muir, market strategist at East West Investment Management.

To contact the reporter on this story: Luke Kawa in New York at lkawa@bloomberg.net

To contact the editors responsible for this story: Jeremy Herron at jherron8@bloomberg.net, Rita Nazareth, Randall Jensen

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