Defense Sector Risk, Vol Correlations Rise As Election Looms Large

I’ve included the Fidelity Symbol Summaries for four major players in the Defense Sector, below.

General Dynamics Corporation (GD) is an aerospace and defense company that offers a portfolio of products and services in business aviation; combat vehicles, weapons systems and munitions; military and commercial shipbuilding, and communications and information technology.

Lockheed Martin Corporation (LMT) is a global security and aerospace company principally engaged in the research, design, development, manufacture, integration, and sustainment of technology systems and products. The Company also provides a range of management, engineering, technical, scientific, logistic, and information services. It serves both domestic and international customers with products and services that have defense, civil, and commercial applications, with its principal customers being agencies of the United States Government.

Northrop Grumman Corporation (NOC) provides products, services, and integrated solutions in aerospace, electronics, information and services to its global customers.

Raytheon Company (RTN), together with its subsidiaries, is a technology company specializing in defense, homeland security and other government markets worldwide. The Company provides electronics, mission systems integration and other capabilities in the areas of sensing, effects, and command, control, communications and intelligence systems (C3I), as well as a range of mission support services.

We can see they’re all down small. What isn’t quite apparent is that the IV30™’s are all rising into the election. On the day the IV30™ gains are:

GD: +10.0%
LMT: +12.2%
NOC: +9.3%
RTN: +13.4%

This is another industry note, similar to the one I posted on Friday for managed health care.

In any case, today we’ll go evergreen here and examine the defense sector and the risk embedded in that industry due to the upcoming presidential election. Let’s start with four Skew Charts. The red curves represent the Nov options while the yellow curves represent the Dec options.

GD

LMT

NOC

RTN

What we can see quite clearly, across all four names is that the front month is elevated to the back (i.e. the red curve is above the yellow curve). That vol difference is increasing as of yesterday and my best guess will expand even further todat (depending on how the mid-day polling goes).

I have included just the vols by expiry below for each of the four names – note the increases in Nov vol relative to Dec for each of these four.

I know that’s a lot to look at and digest, but just focus on the Nov and Dec vols and the changes. To make it a touch easier to read, I’ve included a summary table below:

Note that I used percentage changes in the Nov and Dec Expiry Rise fields to make comparisons a bit easier. The vol correlation is incredibly high, where we see a range of [14%, 18%] for Nov vol increase and [5%, 7%] in Dec vol increases.

We can see a bit more clearly now how the IV30™’s are rising and while vol is up in both Nov and Dec, it’s Nov that is showing the greatest move. In English, risk as reflected by the options market, is rising across the board, with the nearest-term options (Nov) showing the greatest risk.

As I wrote in a prior article, this could be another case where an industry specific reaction will dominate any correlation to the overall market. That is, this industry’s correlation to the market may tend to zero as the singular event that is tying them together unravels (the presidential election).

Disclosure: This is trade analysis, not a recommendation.