October Realized Volatility Is Now The Lowest On Record

After September was declared the lowest volatility month on record, October is starting auspiciously, if only for the vol sellers.

After last week stocks rose again on renewed hopes of a Trump tax deal and following a payrolls report which showed the hottest wage inflation since the financial crisis, the S&P 500 closed the week 1.19% higher, while the Russell 2000 added 1.30%, the NASDAQ 100 increased 1.43%, and the Dow gained 1.65%.

And while implied vol limped up slightly week-over-week as the VIX increased 0.14 points to 9.65 last Friday, this was the eighth consecutive close below 10. However, on Thursday the VIX closed at 9.19, the lowest close of all time. The trend appears set to continue, because as Bank of America's derivatives expert Benjamin Bowler writes while October tends to have the highs volatility of all months of the year, this time is different and currently the annualized month-to-date realized vol for the S&P is 5.22%, the lowest October we've seen on record spanning back to 1928. For comparison, the median SPX realized vol in October is 17.22%, while the 1st percentile is 6.15%. Interestingly, the other four lowest vol Octobers were all in the 1960s ('61, '64, '65, and '68), the period prior to "The Great Inflation" and rapidly rising rates of the 1970s.

Implied vol remains similarly low as the VIX has closed below 10 every day so far in October except for Monday, 9-Oct, and in fact, closed at a record low 9.19 on 5-Oct. Not only is this remarkable on the surface, but is also even more notable given that seasonal trends tend to result in October vol being amongst the highest of all months.

Bowler then points out that perhaps as a result of the secular decline in vol, VIX calls have become more expensive relative to S&P 500 puts over the past few years, "however the higher cost is in part justified by the increasingly high beta of VIX futures in equity sell-offs."

The implication, at least for those who believe the trend will continue, is simple:

investors can buy call spreads on the S&P 500 and/or on individual sector ETFs to position for further upside in US equities into year-end. S&P 500 call skew has reverted from its high in mid-Aug to near five-year lows today. The flattening of call skew indicates that market participants are pricing in a higher probability that OTM call options will expire in-the-money, a potentially bullish indicator.


Call skew has most significantly flattened in the Industrials, Consumer Discretionary, Energy, and Staples sectors, i.e., sectors with both positive and negative correlation to US rates. In the height of the reflationary trade during the 3M following the 2016 US election, all S&P 500 sectors registered positive returns.

This, incidentally, is a confirmation of what Morgan Stanley's QDS group said yesterday, when it pointed out that "Investors in the SPX options market have bought more delta in the last two weeks than at any point since at least 2007."  In other words, investors are now finally rushing to be part of the rally, but not via stocks, but via levered, upside calls, a stampede which typically takes place when investors are confident there is virtually no downside risk left. It usually precedes periods of sharp risk corrections.

The above, stated simply, confirms that the blow off top has arrived, and not only in stocks and broader market indexes, but especially derivatives as even retail investors now scramble to buy S&P calls, slamming implied and realized vol, and betting that the market will not suffer any material drop for the foreseeable future.