Implied Volatility In FX, Bond, Equity Markets Rises
IG | Jan 30, 2018 12:57AM ET
There was always a worry that sentiment had got a little crazy, with a number of red flags around market euphoria being highlighted by traders and strategists.
We talked last week about the ability for traders and investors to look at hedging strategies, with the saying ‘hedge because you can, and because it’s cheap, and not because the market forces you to do so’ and this is seemingly in play here. Here we can see implied volatility in the FX market has been moving higher. This is also the case in the bond market and the equity market, with implied S&P 500 volatility (the CBOE Volatility Index or "VIX") pushing into the 13% level, with traders increasing the demand for put options and downside portfolio protection. A break in the VIX index of 14.5% this week seems a tall order, but should it happen, it would promote a greater move lower in the S&P 500 and the other various US equity indices, as well as affecting sentiment in other global markets.
As we look around the markets for leads for Asia and it does feel like the bears are getting a better say, however, the buy the dip crowd have once again been prominent, with the Dow trading sharply lower by 03:00 aedt and towards 26,452, while the S&P 500 fell to 2854 (-0.6%), although price has moved back towards 26,537 and 2863 (-0.3%) respectively at the time of writing. It seems, that with around 25% of the S&P 500 market cap set to report quarterly earnings on Wednesday and Thursday alone, investors don’t want to be underweight and caught short if the trend of beats continues and they can squeeze further life out of the market and help generate alpha. Let’s see how the land lies once earnings are in the price and out of the way, that said, for now, the trend in the S&P 500 is higher and that still needs to be respected.
Apple (NASDAQ:AAPL) has found good sellers ahead of its earnings numbers this week on reports (source: Nikkei) it is to halve Q1 iPhone production targets and this had reverberated through the semi’s, with corporates leveraged to the iPhone supply chain struggling. We are also seeing weakness coming into market for darling Caterpillar (NYSE:CAT), which has basically been an incredible proxy for all things emerging markets and if long I would be running stops through the 3 January low of $155.40. It’s no surprise to see the iShares MSCI Emerging Markets (NYSE:EEM) lower by 1.3% and this needs to be watched as the ETF has had a huge move and could be subject to mean reversion.
Boeing (NYSE:BA) has been a huge contributor to the moves in the Dow, especially through 2017, but again this market leader is struggling to regain its upside momentum but is finding bids into $331, so this support needs to hold. There has been indecision to push financials higher, with the US Financial Select Sector SPDR (NYSE:XLF) ETF basically unchanged despite a further sell-down in US fixed income markets, with the US 10-Year Treasury moving four basis points higher to 2.70% and eyeing the 2.75% level I have been keen to focus on. Certainly, the moves in the global bond markets are getting noticed by equity traders, although, I don’t see them at levels that should genuinely promote risk aversion just yet. Of course, it’s also the pace of the sell-off that needs to be considered, as is the focus on higher inflation expectations and if inflation expectations don’t move higher to the same extent as nominal bond yields then the result is higher ‘real’ yields. Should this play out, especially if it comes with a turnaround in the USD, represents a tightening of financial conditions and would be bad for risk sentiment and would suggest looking aggressively at shorting emerging market assets, as a trade.
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So with the USD eyeing the start of a tactical counter-rally, and where we see the USD index is gaining 0.4% on the session, we can see US data has started to roll in for the week. At 00:30 aedt we saw the December PCE (personal consumption expenditure) print coming in as expected at 1.5% (+0.2% M/M), with personal spending and personal income printing 0.3% and 0.4% respectively, so good economic data but all very much in-line. There will be a focus on Trump’s State of the Union speech in the upcoming session and we see that the USD index has scope this week to push towards the 17 January lows of 89.85, although that could offer better levels for USD bears to regroup and there are plenty out there looking to sell any counter-rally. EUR/USD has found buyers off the earlier session low of $1.2336 and is looking like it will close above the 5-day exponential moving average (EMA) at $1.2370, which I see as a loose trigger for a deeper move into $1.2200 to $1.2100. The monthly chart offers great perspective, where we can see the pair finding sellers at both the 2008 downtrend and the 200-month average, so this poses a trading consideration and clearly the $1.2500 to $1.2432 area is key here. An upside break and one suspects we are to see a far longer-term move towards $1.4000, while a rejection could mean the weak USD move could be over.
USD/JPY has pushed a touch higher into ¥109 and has some scope this week to push into ¥110/50, but it is the USD/CNH and USD/CNY that is most influential and it seems that pair is putting in a base and any moves higher will push the broad USD higher. This is true of AUD/USD as well, which is eyeing moves in USD/CNY, and where price is eyeing a break of the September highs of $0.8125, which could put a target of $0.8450 in play. That, despite the pair being ‘expensive’ on a number of valuation models for the first time in a while. NAB business conditions are in play at 11:30 aedt, but unlikely to move the dial to any great capacity ahead of tomorrow’s Q4 CPI print.
So, aggregating all the known news, which also includes some headwinds for energy and material stocks, with oil lower by 1% and gold and silver finding sellers on early signs of a USD turnaround. At this stage, we are seeing Aussie SPI Futures 17-points lower from the ASX 200 close (at 16:10 aedt) and with our fair value weighting, we are calling the ASX 200 to open at 6054 (-21 points), so a soggy open expected. Fortescue Metals Group Ltd (AX:FMG) gets attention with production numbers due and some of the heat coming out of the price of late, although spot iron ore closed largely unchanged. Banks have no real clear lead and should stabilize the market to an extent, although we should also case our eyes on moves in the Chinese equity markets and Hong Kong too, as we have seen some of the heat coming out of these markets after a huge run.
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