The Big Bet That Nothing Will Happen in the Weeks Ahead

Many commentators have noted that the so-called “fear gauge,” or CBOE Volatility Index (VIX), a measure of market expectations about near-term volatility, has been trading at multi-year lows, suggesting that traders are complacent about the risks ahead.

In fact, a low VIX has often been the precursor to market corrections and sell-offs over the past several decades.

But a more granular reading of the term structure of implied volatility, which shows how expectations of market volatility vary for different points in time, reveals a more interesting perspective.

As the following chart shows, expectations about implied volatility — essentially, the relative price of options — on two widely-followed (and heavily-traded) ETFs have over the past month fallen much more on a relative basis for short-term options than for their longer-term brethren, suggesting that investors are making an aggressive bet that nothing untoward will happen in the immediate period ahead.

Arguably, this low level of concern reflect the fact that traders believe: 1) the Fed will launch another round of easing (most likely announced around the time of Kansas City Fed’s Jackson Hole symposium at the end of the month); 2) the ECB and other authorities will do whatever it takes to prevent any sort of calamity from unfolding in Europe ahead of critical meetings and other developments set to take place starting in September; 3)  growing turmoil in the Middle East won’t reach a boiling point until well into the fall; 4) or, nothing of any consequence will happen in the remaining dog days of August because so many people are on vacation or otherwise sitting on their hands.

For their sake, let’s hope they are right.

2012-08-18 07:59:02

Source: http://www.financialarmageddon.com/2012/08/the-big-bet-that-nothing-will-happen.html