Market Volatility Gone? - Trading Journal (11.07.20)

Recently I read through fintwits and something got my attention. The St. Louis Fed Financial Stress Index that gets updated weekly has a very close correlation with the CBOE VIX index. As of this past week right after the presidential election the market indexes moved up over 10% in a week. At the same time the volatility in the markets were sucked out which caused a lot of traders to have to cover their shorts by buying back stocks. Bottom line the VIX dropped close to 40% from its high as of last Monday.

The momentum is in bulls court therefore VIX is pressured to go even lower and to make it even more interesting is that around the past Feb. to Mar. market drop the VIX gap higher. In all instances any gap in the VIX would eventually get filled. Now that it has momentum to the down side in all likelihood that Feb. gap can likely be filled pretty soon. Gap being filled will lead to higher market prices.

With less than two weeks before Nov. future VIXs expire there is still sufficient time for VIX to continue down at least until Nov. contracts are removed off the table. If VIX can not get lower further from here the Dec. contracts are currently higher than Nov. There is expectation of increase volatility down the road.

FED Financial Stress Index (FSI)

Wiki Explanation of the FED Financial Stress Index.

Focus the VIX and FSI for a 1 year chart and noticed that in February the FSI made a low prior to shooting higher. At that point in time the FSI was actually at its lowest point on record. Looking back at this data it appears the second week of February was a key sign that markets were complacent. The fact that interest rates were exhibiting the lowest stress on record it become a point of reflex as world events hammered in the change just as swiftly. Covid19 may have been the catalyst to jump start volatility in markets in February, but current FSI appears to be rising again.

Zoom in slightly closer and notice in June there was a pick up in VIX only to be sold as the FSI decent from a up move. This looks very similar to that of what we are witnessing in Oct. leading into Nov. However with the FSI only coming out in a weekly basis it is not clear if the value actually rose or drop as of this week.

The FSI comes out every Thursday at 9am. It is a lagging indicator as it will come out after what we have witness in the VIX. Since the VIX and FSI correlate so well I would have to assume the FSI will be lower in the next release. However if the FSI rose it will provide us a warning/caution for the overall markets. As this is a sign that bond yields are doing the opposite of the markets, and we all do not have to be reminded too often how Feb. and Mar. of this year turned out.

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