The market’s Valentine’s Day gift is VIX expirations today. It might be no more than a flirtatious glance toward investors but there’s reason for wariness.
It kicks off the February series of expirations for derivatives today through Friday, with then a market holiday next Monday, new options and futures (and vast derivatives thus date-stamped) next Tuesday, and banks sorting out imbalances Feb 21.
It matters because leverage lately failed in epic fashion – like snowboarding the halfpipe at the Olympics and putting the toe of your board into the lip and faceplanting at high speed.
Michael Batnick of Ritholtz Wealth Management writing yesterday for Marketwatch said the market has rarely given so little warning. He says it’s the first time ever back to 1900 that the Dow closed at all-time highs and nine days later was down 10%. It’s the largest momentum decline on record for the S&P 500. It’s the biggest freefall we’ve seen in our Sentiment Index since launching it in 2012.
In his graphs, it’s a “Told You” theory. As in “I told you” it wasn’t over. Until it is.
There could be a crisis of confidence for everyone who buys and sells volatility, as with an Olympic athlete who suddenly fell before competing. Anyone besides Shaun White, that is, who wrecked last October and got 62 stitches for it and this week in PyeongChang laid near-perfection on the halfpipe, winning a comeback third lifetime Games gold.
We’ve seen the market get back up. In Dec 2015 after the Federal Reserve lifted rates for the first time in ten years, stocks fell apart after expirations that month. From a low in early January the market then roared toward expirations like a wounded beast in great throes, swooned to February expirations, and finally launched a burning contrail into May, pulling a Shaun White comeback.
Today marks the first expirations after low-volatility strategies crashed. This is when damage shakes out, traders signal if they’ll try again, and banks and their customers as counterparties tell us with actions if costs have risen. We’ll learn if volatility traders have some Shaun White in them.
Since this temblor started in late January, each big up day – Feb 6, 9, 12 – has brought a rash of Active buying. Contrary to my own expectations that investors might sell the rallies, investors have done the opposite. There’s a foundation of economic enthusiasm.
But it also fits with Michael Batnick’s “Told You” theory that can mean the end of market cycles. See his images in the piece above. In our Sentiment Index we’ve added a straight line at 5.0 – mean-reversion, the chief characteristic of this post-crisis market – and a trendline. The trend is weakening.
It says the bull market dies ahead. I said a week ago it wasn’t over. I still don’t think it is. But maybe it’s the beginning of the end, the bear a far distant dot. The trend could run another two years before gravity pulls it into the white line and it burns like space junk.
Maybe the white line doesn’t matter. But supposing it does, we need some Shaun White from the market.