On Monday evening, on the way to showing you what the best performing asset class of 2018 has been thus far (hint: it’s commodities, albeit with a bunch of caveats), we took a moment to recount how we got here. Here are some excerpts from that post:
The viability of the “Goldilocks” narrative underpinned the low vol. regime last year and intermittent flare ups on the geopolitical front (e.g., “fire and fury”) weren’t sufficient to shake investor confidence in risk assets. The “lake placid” market notched milestone after milestone, emboldening the Seth Goldens of the world, who re-engaged on the short vol. trade on every SPX dip – BTFD was running on auto-pilot and the central bank communication loop with markets created a scenario where investors were forced to either harvest carry or go out of business waiting for the tide to turn. As Deutsche Bank wrote earlier this year, that’s “not much of a choice, really.”
All of that changed rather abruptly in February and things haven’t been the same since. 1% moves in either direction have become more the norm than the exception and while the blowup of the Seth Golden crowd and the cascade of systematic de-risking the attendant VIX spike precipitated could plausibly be written off to a one-time technical hiccup, the ensuing turmoil around the trade war escalation and tech’s newfound regulatory woes suggest “we’re not in Kansas anymore” (so to speak).
No, we are indeed “not in Kansas anymore” (Toto) and on Tuesday, Goldman is out with a couple of new notes documenting the extent to which investors have gotten “a taste of the high (vol.) life” in the new year.
We’ll have more on this later, but for our purposes here, note first the following chart from Rocky Fishman (he jumped ship to Goldman from Deutsche last year) which shows you that, as Rocky explains, “Q1 SPX realized volatility was top-quartile compared with the past 25 years, a contrast to each quarter of 2017 being among the several least volatile quarters of the same period.”
And here, courtesy of a separate note from Goldman, is a look back at the history of VIX spikes and nine decades of realized, along with the accompanying color:
Now, after more than 19 months of very low equity volatility globally, the equity drawdown that started at the end of January has been followed by more lasting high volatility. The shift to higher vol was initially triggered by higher rates vol and the unwind of short VIX ETFs. But recently it has moved into a broader worries, including a global growth slowdown, monetary policy uncertainty, ‘trade wars’ and headwinds for the US tech sector. While the recent S&P 500 realised vol spike is well below those seen during the Global Financial Crisis and when the Tech Bubble burst, it has been close to some of the larger vol spikes in the last 100 years, similar to the 2015/16 EM/oil crisis. Also, the VIX had a large spike to levels close to those during the Asian Financial Crisis in 1998 and the invasion of Kuwait in 1990 (Exhibit 1).
Were you wondering how history breaks down in terms of the frequency of high vol./low vol./ and “normal” regimes? No? Well, that’s too damn bad, because Goldman is going to show you anyway thanks to the following visual which has a pastel-Christmas color scheme:
Finally, here’s a look back at 90 years of 1-month realized vol. with recessions and bear markets shaded:
So the question is: will the recent vol. spike in equities “mean revert”? Or has equity vol. reset sustainably higher, finally breaking the spell and setting the stage for a lasting return of two-way markets that will now be navigated by a combination of hair trigger algos and traders who, by virtue of having been in high school for Lehman, have never had to navigate choppy waters?