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Beware Friday's OPEX, JPMorgan Warns "Volatility Too Low, Disconnected From Fundamentals"

Tyler Durden's picture




 

Many market participants are scratching their head as to whether the low VIX levels are an anomaly or some kind of utopian new normal. JPMorgan's Quant Derivatives shop warns the current environment is not similar to the great moderation of 2004-2007 as volatility appears to be disconnected from fundamentals and pressured by structural effects, including central bank intervention, low trading volumes, and pressure from option hedging. Crucially, based on an examination of 'gamma imbalances', the current (low) volatility regime may change significantly after the June expiry.

As JPMorgan explains...

Low Volatility – Anomaly or a New Normal? Many clients have asked us whether the low VIX levels (1M median: 11.7) are an anomaly or a new normal. We have heard analysts arguing that the low volatility is fundamentally justified and the current environment is similar to the 2004-2007 time period. To assess current levels of volatility, we have analyzed the VIX in light of recent Macro data, Volatility of other asset classes, and various structural drivers. Our view is that the current environment is not similar to 2004-2007 as volatility appears to be disconnected from fundamentals, and pressured by structural effects. In our recent report on the VIX, we analyzed the ability of employment, manufacturing, consumer and housing data to forecast the VIX. Most of these macro series indicate that the VIX is about 3 points too low (historical success rate of these forecasts was 60-70%). During the 2004-2007 time period, these same macro models showed the low levels of volatility at the time were fairly priced.

Volatility in other asset classes such as rates, FX, commodities and credit spreads have also been very low. Some of the measures (such as G7 FX, Rates, and Oil volatility) are in fact at absolute all-time lows (VIX is in the 25th percentile of the 2004-2007 low volatility range). The only exception is credit spreads which are moderately higher now than during 2004- \2007. In addition to low levels, most cross-asset volatility time series (85%) have been declining in the last month – a signal that does not point to an imminent increase in volatility.

To further understand the current low volatility levels and compare it to the 2004-2007 time period, we looked at levels of market activity and structural drivers of volatility. Firstly, there is much less trading activity now as compared to the 2004-2007 time period.

Figure 3 below shows a nearly 50% decline of equity share volumes since 2007. Volume and volatility are highly correlated (Figure 4, current low volumes/volatility are denoted with a red dot). Volatility and volumes are linked by a positive feedback loop (lower volumes lead to lower volatility and vice versa).

Lower market activity is likely due to relative decline in activity of levered investors such as hedge funds and prop desks, and relative increase from less active investors such as corporates performing buybacks, or asset managers increasing equity allocations. Relatively high valuation of equities is also not supportive of higher volumes and volatility, as value-driven investors gradually step away from the market. Low realized volatility and the low yield environment further invite volatility sellers of all shapes and forms which is putting further pressure on implied volatility measures such as the VIX.

In addition to low trading activity and option selling, volatility has been under pressure from the hedging of options. Figure 5 above shows the S&P 500 call-put gamma imbalance that has recently reached all-time high levels. Gamma (per 1% S&P 500 move) of call options was $25bn higher than the gamma of put options last week. As investors on average tend to sell call options and buy put options, hedging of these positions puts pressure on realized volatility and this pressure is higher than it has ever been.

In summary, we see the current market environment as different from 2004-2007. Volatility appears to be too low and disconnected from fundamentals. However, the low yield environment and support from central banks is currently keeping volatility low not just in equities but across asset classes.

Additionally, equity volatility has been held down by low trading activity and option hedging pressure. As we will discuss below, some of the option-related pressure on volatility will abate after the June expiry, which could result in higher realized volatility.

One more thing...

Option Expiration: About $900bn of S&P 500 option notional is expiring this Friday.

The current ratio of Put to Call contracts outstanding is ~2 which is near all-time high levels (98th percentile over the past 15 years). The high ratio of Puts to Calls may on the surface suggest that investors are well hedged and bracing for a market decline. However this is not the case as most of the put options are far out of money and ineffective at current market levels. Figure 9 below shows S&P 500 options open interest by strike. Currently, ~80% of put open interest is below the 1850 strike and would not be an effective hedge for a ~100 point market pullback. This is also illustrated by the directional exposure (delta) of put options that is only ~$40bn (on ~$650bn of June Put notional open interest, i.e. the average delta for all June puts outstanding is only ~6%).

While it is hard to forecast if and how investors will roll these put options, the directional impact of rolling protection to higher strikes could have a negative impact on the market. Assuming naively that clients are long puts and short calls and roll all June options (calls and puts) 3 months out and 100 points higher, this would lead to an incremental change in total delta of negative ~$100bn of S&P 500.


Despite the high put-call ratio, the total gamma of calls is currently ~$15bn larger than the gamma of puts, which is pressuring realized volatility lower. However, about $10bn of this call imbalance will expire on Friday, leaving more balanced gamma positions thereafter. In addition, we think that if a significant amount of June puts (~$650bn of put notional) is rolled to higher strikes, it will further increase the put gamma. This in turn would be supportive of higher realized volatility post June expiry compared to realized volatility over the past month.

 

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Wed, 06/18/2014 - 22:12 | 4872075 Squid Viscous
Squid Viscous's picture

they will hold this cunt of a "market" at 1950-55 to fuck all the spy/dia/qqq etc. put holders, lather rinse repeat...seen this movie before, for about the last 50 op-ex dates

Wed, 06/18/2014 - 22:19 | 4872100 BobTheSlob
BobTheSlob's picture

Hey Asshole...I served...and I'll cut yer fuckin tentacles off as soon as I get off this couch, bitch.

Wed, 06/18/2014 - 22:21 | 4872113 Squid Viscous
Squid Viscous's picture

umm, you served? wtf does that mean?

Wed, 06/18/2014 - 22:23 | 4872117 BandGap
BandGap's picture

That means = Tourettes

Wed, 06/18/2014 - 22:28 | 4872123 Squid Viscous
Squid Viscous's picture

yeah maybe soft cones at the DQ, that would be serving someone at least...certainly didn't serve me if he's talking about being a jarhead

Wed, 06/18/2014 - 22:30 | 4872131 BobTheSlob
BobTheSlob's picture

Yep...cut off a tentacle....ram it up yer shitter...sounds like a plan.

Wed, 06/18/2014 - 22:33 | 4872141 flacon
flacon's picture

I was going to post something about the VIX but it seems the comments section must be from a different thread - perhaps the transgender surgery thread... 

Wed, 06/18/2014 - 22:36 | 4872150 BandGap
BandGap's picture

Post away. The VIX is meaningless.

Ever try to drink a twelve pack of Miller High Life you left on the counter, before it gets warm? Halfway there, Vicks.

 

Thu, 06/19/2014 - 00:41 | 4872477 joego1
joego1's picture

merry vixsmix

 

Wed, 06/18/2014 - 22:35 | 4872145 Squid Viscous
Squid Viscous's picture

wow you sound like a real tough guy, must be all those pushups at Quantico... if you want to continue i will fuck you up, let's meet

Wed, 06/18/2014 - 22:26 | 4872124 BobTheSlob
BobTheSlob's picture

Actually...it means this ahole was blabbing about people stupid enuff to serve based on a Nov 10 date I posted. Get it now squidvicious?

Wed, 06/18/2014 - 22:31 | 4872129 Squid Viscous
Squid Viscous's picture

yeah go for it, re-enlist if you can and go die in Eye-rack you fucking idiot

Wed, 06/18/2014 - 22:34 | 4872142 BobTheSlob
BobTheSlob's picture

LOL...not a chance...I make more dinero here now...ORDERS of magnitude.

But your condescention makes me quickly comprehend that you are nothing but a pussrocket. If you are under 30 let me suggest that you get a professional.

Not a shrink, but one that will teach you to kill something...and not be a pusstard the rest of your life.

Wed, 06/18/2014 - 22:45 | 4872159 Squid Viscous
Squid Viscous's picture

yeah I want to learn how to kill ... that would be awesome - how about we meet and see who's the "pussrocket" (??)  -do you have PTSD? that must suck...

Wed, 06/18/2014 - 22:47 | 4872188 BobTheSlob
BobTheSlob's picture

Send me your address.

sharpei56@hushmail.com

I promise you won't be disappointed!

Wed, 06/18/2014 - 22:57 | 4872224 Squid Viscous
Squid Viscous's picture

OK just emailed you ... let's see who's the internet tough guy

Wed, 06/18/2014 - 23:04 | 4872258 BobTheSlob
BobTheSlob's picture

Sent.

Let me know what types of liquor you like. They tend to take out the sting.

Wed, 06/18/2014 - 22:56 | 4872225 BobTheSlob
BobTheSlob's picture

Still nothing in my inbox. Have anything else to bloviate about ex-vets asshole?

Don't think that your posts on other articles go un-noticed.

Wed, 06/18/2014 - 22:59 | 4872235 Squid Viscous
Squid Viscous's picture

no i hope they get noticed that's why I post them dipshit

Wed, 06/18/2014 - 22:39 | 4872161 BandGap
BandGap's picture

Beer just shot out my nose reading that, Bob. Thank you very much. The wurld is getting more stupider.

Have you had sex with anyone other than yourself lately?

Wed, 06/18/2014 - 22:45 | 4872183 BobTheSlob
BobTheSlob's picture

LOL...good one. You sound like a solid Alynskyite. Google it.

Wed, 06/18/2014 - 22:49 | 4872200 BandGap
BandGap's picture

You used google as a verb.

You started off as an asshole, any interest in changing direction?

Beer #7.

Wed, 06/18/2014 - 22:52 | 4872205 BobTheSlob
BobTheSlob's picture

Nope. Asshole = the ultimate contrarian.

Don't like it? Wow what a shock!

Oh...Merlot#4

Wed, 06/18/2014 - 22:59 | 4872241 BandGap
BandGap's picture

No Bob, asshole = asshole.

Have fun beating up people, you burly man you.

Wed, 06/18/2014 - 23:05 | 4872263 BobTheSlob
BobTheSlob's picture

Yep...tell that to squidward tentacles. He likes to badmouth vets.

Otherwise P!ss off!

Wed, 06/18/2014 - 23:26 | 4872323 Squid Viscous
Squid Viscous's picture

Bob please remind where I "badmouthed" Vets, I feel sorry but that's different

Wed, 06/18/2014 - 23:25 | 4872318 tankster
tankster's picture

I believe it's ear-rock. Sorry, couldn't  help myself..

Wed, 06/18/2014 - 22:27 | 4872125 litemine
litemine's picture

Sorry but we will forgive you........if you have learn from your mistakes.  Fool me once.....comes to mind.

Wed, 06/18/2014 - 23:27 | 4872325 PhoThus
PhoThus's picture

Wow. Tyler how about simplifying that article a bit. Why does buying higher put strikes increase the volatility?

Wed, 06/18/2014 - 22:20 | 4872105 alien-IQ
alien-IQ's picture

hmmmm...perhaps tossing a small amount of money at some out of the money VIX calls might be in order...a lotto ticket.

Thu, 06/19/2014 - 07:29 | 4872832 what's that smell
what's that smell's picture

me thinks squid viscous and bob(the knob)slob are the same sick twisted troll scribbling to himself.

"take that bitch!" "gonna fuck you up!" No! Mom! I don't want to clean the basement!" "Be a good boy."

i got a nice bridge for sale, troll.

 

Wed, 06/18/2014 - 22:21 | 4872112 HedgeAccordingly
HedgeAccordingly's picture

A vol spike will come soon. Swift. A summer swoon.

Grt://Hedge.ly

Wed, 06/18/2014 - 22:22 | 4872114 BandGap
BandGap's picture

I have adult onset diaper rash.

Looks like people are leaving the casino. And the machines still make noise.

Wed, 06/18/2014 - 22:24 | 4872119 BobTheSlob
BobTheSlob's picture

I'm not even remotely drunk enuff to get any of this. Heck, my Dr. stuck his finger in my posterior last week and was talking about the same gamma imbalance.

Tyler a new approach: When we need to sell, just post a big four letter post that says SELL in big red letters.

Wed, 06/18/2014 - 22:33 | 4872136 BandGap
BandGap's picture

Bob, I didn't know you could read. Good for you.

Have to werk on that spellin.

Wed, 06/18/2014 - 22:36 | 4872149 BobTheSlob
BobTheSlob's picture

Yep...posterior = posterior.

Sorry about that one.

Wed, 06/18/2014 - 22:42 | 4872169 NoDebt
NoDebt's picture

Where you been the last 5 years?  Are the flashing neon signs in ALL CAPS not enough?

ZH is fantastic at exposing conspiracy theory as conspiracy fact.  They've done it many times (documented).  For those small slices of the market those things affected, they're solid gold.

OVERALL market performance.... they've been on the wrong side of this unprecedented 5 year bull run consistently.  Not that it's their fault, really, but they keep holding onto this idea that markets even exist any more.  They don't.  There are only central banks now.  And central banks are NOT letting this miraculous asset price recovery be endangered by something as unpredicable and dangerous as "market forces".

 

Wed, 06/18/2014 - 22:57 | 4872229 disabledvet
disabledvet's picture

Never followed the investment advice here tho.

Jumped off the crazy pants trade over a year and while not recommending anyone short this thing have been truly astounded by the move higher continuing. Bears better have one good day this week.  They haven't had a good one in five years.

Today was classic betazoid freak out.  Bears never had a chance.  "Springtime for Hitler." 

Move along.

Wed, 06/18/2014 - 22:36 | 4872127 deflator
deflator's picture

 We need a volatility index for the volitility index. Got an email from broker last week that my 11 target for VIX that had been set 5 years ago had been reached. Doesn't look like such a good buy now.

Wed, 06/18/2014 - 23:49 | 4872373 Frilton Miedman
Frilton Miedman's picture

 

 

 

VVIX on CBOE = VIX volatility

Wed, 06/18/2014 - 23:56 | 4872384 deflator
deflator's picture

thx, double the fun!

Wed, 06/18/2014 - 22:29 | 4872128 gianakt
gianakt's picture

CFD SP500 top is in at 1959.70, long anticipated 16.71% correction has begun till this fall. No one is willing to go short.

Wed, 06/18/2014 - 22:38 | 4872157 texas economist
texas economist's picture

More likely, given organized support of equity prices, low volatility and low volume are tools that are cultivated for the purpose of elevating prices. In other words, with low volume and low volatility stock prices are manageable. A good analogy is the process of sailing into the wind. A boat can sail into the wind but not a hurricane force wind.

<a href="http://quillian.net/blog/">Common Sense Economics</a>

Wed, 06/18/2014 - 22:42 | 4872173 I Write Code
I Write Code's picture

 

As investors on average tend to sell call options and buy put options

Huh?  Who took the other side?

I don't know why most of those factors should have any relationship to VIX, but of course volume/VIX does, but that doesn't come near explaining why it looks so low in the McClellan summation index.  The Fed is clearly holding these aggregate factors just where they want them for occult reasons they don't share with mere mortals.

But I too suspect a break is coming, one way or another.  Or else even a further tightening that I presume would be totally unprecedented.

Thu, 06/19/2014 - 00:21 | 4872418 Frilton Miedman
Frilton Miedman's picture

Over it's 2-1/2 decade history, the VIX tends to trade in five year phases marked with lower and higher bottom ranges.

The higher 5 yr range tends to bottom at ~16, the lower At ~10.

We saw the higher range from 2007-2012, that puts us theoretically right at the low point of the lower five year range.

We're likely to see the Vix bounce off this 10-11 level for the better part of a year, but cautiously buying the VIX at this level is a reasonably good idea regardless, especially before expiry.

 

Wed, 06/18/2014 - 22:45 | 4872181 Seal
Seal's picture

“Excess generally causes reaction, and produces a change in the opposite direction, whether it be in the seasons, or in individuals, or in governments.” Plato

Wed, 06/18/2014 - 22:55 | 4872220 TonyStewart14
TonyStewart14's picture

If the Fed, ECB and every central bank are providing a liquidity put to risk assets, why would you ever buy a put when one is being provided for free?  Likewise, the massive stock buyback programs that are currently supporting the market act as another free put for those long equities.  Volatitily has been crushed.  The central banks have won.  Absent a direct attack on the United States or massive earning misses, volatility will remain very low for a long time.   

Wed, 06/18/2014 - 23:01 | 4872250 Ban KKiller
Ban KKiller's picture

AAh...the relics of a free market.

Wed, 06/18/2014 - 23:40 | 4872354 TheRideNeverEnds
TheRideNeverEnds's picture

inb4 VIX prints under 10

Thu, 06/19/2014 - 00:55 | 4872501 Wait What
Wait What's picture

Central Banks have reached securities markets Nirvana.

this is the point at which the gambler would be well advised to take his winnings and leave the casino...

but obviously this batch of central bankers are the kind of gunslinger gamblers that will keep raising the bet to pick up those last few pennies before the steamroller is on top of them.

it's telling that despite all the noise about how 'it's time to start raising rates' these fools don't want to listen, totally oblivious to the reality that everyone else is seeing. Marriner Eccles might as well be Rapunzel's tower.

Thu, 06/19/2014 - 01:00 | 4872506 Ms. Erable
Ms. Erable's picture

JPM is finally half right; where they miss is that the fundamentals are disconnected from the fundamentals, and their 'structural effects' are persistent structural defects.

Thu, 06/19/2014 - 01:57 | 4872573 christiangustafson
christiangustafson's picture

Shhh -- don't look now, but we have double-nested sets of George Lindsay's "Three Peaks and a Domed House" pattern in play.

http://deflationland.blogspot.com/2014/06/charts-06-18-all-3pdh-all-time...

The technical gods demand blood tribute!

Thu, 06/19/2014 - 02:07 | 4872587 enloe creek
enloe creek's picture

I was in the suck at the start of this depression in 1979 good people from all the lower levels of society don't think anyone ever had my back like that since

Thu, 06/19/2014 - 04:11 | 4872682 nic_zh
nic_zh's picture

Low VIX = high prices & smaller free float (because of buybacks)

Thu, 06/19/2014 - 05:46 | 4872734 jubber
jubber's picture

Gold up US$ down while stocks surge...maybe a shift beginning to take place?

Thu, 06/19/2014 - 05:59 | 4872741 Notsobadwlad
Notsobadwlad's picture

The lower volume and volatility is understandable since:

1. A greater percentage of the benficial ownership of shares are in strong hands ... because they are the buyers of last resort and the market is massively ovepriced, from a valuation perspective ... especially in names that people would normally buy.

2. People realize that the market is completely rigged against them and so they refuse to participate. Unlike in past times, the higher the market goes the more people refuse to participate because of the fraud and rigging. There is very little "greed" participation and that will continue until the stock market is only for the elitists and criminals who rig the market. I assume this is the intent. Because then they can create fiat wealth at will and never have to crash the market or let free market forces interfere with their scams again.

3. Due to the stronger and more calculated control of price, it takes fewer shares trading to control price and to provide a cover for blatant fraud and manipulation.

Under these conditions, low volatility is expected. High volatility is only required to maximize the theft of money from the profane.

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