Seismic VIX Spike May Be Behind Us But Look Out for Aftershocks

(Bloomberg) -- The bid for volatility should ease back even while bursts of selling pressure in equities can continue.

Markets will remain fragile for weeks after Monday’s record spike in the VIX index. Automatic flows and deleveraging may continue to trigger bursts of selling pressure in U.S. stocks, including from funds that aim to maintain stable volatility level across the whole portfolio. Market may see a cautious return of fast money option-selling strategies given the high levels of implied volatility and the risk of a sudden spike fueled by VIX exchange-traded products likely now behind us.

The distress buying from VIX ETPs is highlighted by the magnitude of the move in VIX relative to the drop in the S&P 500, as well as the widening of credit spreads and other risk-related asset classes. Monday’s 20-point move in the VIX was multiple times the beta to the day’s 4.1 percent fall in the S&P 500, illustrated by regression analysis.

• As flagged on Feb. 2, credit losing momentum vs SPX is a key risk concern with any further dislocation suggesting further downside for equity; break higher in CDX IG 5Y to August 2017 levels has moved in tandem with accelerated selloffs in stocks
• Flows from systematic volatility-linked funds and VAR-driven risk reduction has exacerbated the downward spike and the damage has now been done to short-volatility strategies
• End of the era of extremely low volatility may be looming as the bond-equity battle set to be the theme of the year given the increased sensitivity of the economy to rates compared to previous cycles
• NOTE: Tanvir Sandhu is an interest-rate and derivatives strategist who writes for Bloomberg. The observations he makes are his own and are not intended as investment advice

To contact the reporter on this story: Tanvir Sandhu in London at tsandhu17@bloomberg.net.

To contact the editors responsible for this story: Ven Ram at vram1@bloomberg.net, Anil Varma

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