The Real 'Fear' Index Just Went To '11'

A funny thing has happened below the surface of the markets since late last year. As first The Fed, then The BoJ, and The ECB respectively saw their credibility crushed into a mumbling excuse pool of elite utterances as global bond yields crashed along with global growth and inflation expectations, professional investors have been busily buying crash protection (carefully masking their buying by managing 'normal' risk measure like VIX through endless nefarious cash, ETF, and Futures manipulation). But now, a week after 'Black Swan' bets soared ahead of the central-plan-destroying Brexit vote, the real 'fear' index has spiked to unprecedentedly high levels.

With VIX flip-flopping to and fro at the whim of every fast money trader...

 

Deep out of the money, and 'Black Swan' bets have been building...

"It's a black swan type of put," said Steve Sosnick of Timber Hill LLC. "It's very possible there will be an extreme result, and people like to have insurance against a low-probability, high-outcome event."

Smashing the SKEW Index - the real 'Fear Index' to 11 on the Spinal Tap amplifier of historical financial crises...

As a reminder, Skew measures the perceived tail risk of the market via the pricing of out-of-the-money options. Generally, a rise in skew indicates that 'crash protection' is in demand among institutional investors (institutional/professional investors are the biggest traders in SPX options).

In other words, professionals have rotated from 'normal' risk protection to 'extreme' risk protection at the largest pace on record all the while fooling the mainstream investor who sees a declining VIX and continues to pick up pennies in front of the steamroller.

As we explained previously, an unusual move in the skew index (which historically oscillates approximately between a value of 100 and 130) is especially interesting  when it diverges strongly from the VIX, which measures at the money and close to the money front month SPX option premiums.

Basically what a 'low VIX/high skew' combination is saying is: 'the market overall is complacent, but big investors perceive far more tail risk than usually' (it is exactly the other way around when the VIX is high and SKEW is low).

In even simpler words, a surprising increase in realized volatility may not be too far away...