The second half of 2019 is likely to be “catalyst-rich”, Goldman’s Rocky Fishman writes, in a Thursday note, flagging debt ceiling negotiations, yet another Brexit cliffhanger and the distinct possibility of “market-moving” trade headlines as factors that may jolt markets in H2.
For now, volatility has settled back down near the lows from April, after global central banks’ coordinated dovish pivot catalyzed an almost unprecedented collapse in cross-asset vol.
Although rates vol. picked up at various intervals amid plunging yields and a rapidly evolving monetary policy landscape, volatility across assets continues to grind lower in anticipation of easing and accommodation.
“It is normal for the SPX to see low vol as the index deliberately tests new highs, and the mid-12’s VIX when the SPX first closed above 3000 was actually higher than the VIX was when most levels above 2400 were first reached”, Goldman’s Fishman writes. Here’s one visualization:
And here’s another, just for fun:
For anyone tempted to be long vol. headed into the July FOMC (e.g., on the notion that the Fed will disappoint markets with the outlook for the rate path following this month’s assumed cut and/or that Powell will fumble the press conference as he’s wont to do), Fishman reminds you that the track record is spotty, at best.
“Although it is tempting to add long volatility exposure prior to a Fed meeting, historically the removal of a major catalyst has led to vol dropping post-Fed more often than it normally does”, he says, adding that “the frequency of the VIX rising at least one point on a Fed meeting date has actually been lower than the frequency on other dates”.
And how about market depth? Remember, impaired liquidity has been a fixture of markets and although conditions improved in 2019 amid the rally, things still haven’t returned to “normal”, as it were. On this front, Fishman delivers a somewhat mixed assessment. “SPX futures’ top-of-book depth has averaged just over $20mm in July despite very low realized volatility (7% MTD), below the level seen last September (5.5% realized vol), and well below 2017’s range (realized vol for the year was 7%)”, he notes.
Juxtaposed with broadly similar readings on the VIX, top-of-book depth this month has improved versus last year and H1 2019, but Goldman emphasizes continuously monitoring the situation is desirable in order to get a read on “how liquidity conditions would be in an equity market sell-off”. (Spoiler alert: liquidity conditions will deteriorate rapidly in a selloff thanks to the relationship between volatility, flows and market depth.)
Ultimately, Goldman sounds a somewhat timid tone amid the summer lull. “There is a high probability of market-moving trade developments in the coming months”, the bank says, before cautioning that “the combination of these events and weakening economic growth seem incongruous with very low vol, and we expect higher vol in H2 than in 2019-to-date”.