VIX, “euro VIX” and Risk before the EU Summit
With markets having put in a nice rally going into the Euro summit, there could be nice opportunities playing the outcome via volatility. Both the VIX and the “euro VIX” EVZ, could be possibly good hedges. If you agree even the slightest with Soros, the market could move nicely after the summit. Some thoughts by Vix and more.
It is not that difficult to come up with data and charts that have many investors wondering if risk and uncertainty are being underpriced in advance of the euro zone summit. Earlier today, I offered up one possible example in Euro Volatility and Risk. Since the VIX receives top billing in this space (and not too long ago carried the mostly tongue-in-cheek moniker, “Your One-Stop VIX-Centric View of the World…”), I thought a VIX-specific example might also be of interest.
The chart below shows the last three months of VIX data, with VIX candlesticks on the main chart on the top. The second chart from the top compares the 20-day historical volatility of the VIX (blue line) with the 30-day implied volatility of the VIX (red line), with the yellow area chart just below it calculating the HV minus IV. Much to my surprise the current 20-day HV is 144, while the current IV is only 98. In other words, the markets expect the VIX to be considerably less volatile in the month ahead than it has been over the course of the last month. I am not surprised to see the gap, but do the markets have the direction of the gap right? In terms of trading opportunities, if you disagree with the market consensus, then VIX straddles probably look fairly cheap right now.
The VIX IV also raises the question: just where is the fear in the markets right now?
Note that the CBOE recently launched the CBOE VVIX Index (VVIX), which is essentially a VIX of the VIX and is very similar to the VIX IV30 measure that is calculated by Livevol in the chart below. You can find more information about VVIX at the CBOE’s VVIX micro site. I will certainly have a lot to say about this intriguing index going forward.
With the euro zone summit looming, investors are scrambling to find all sorts of measuring sticks to evaluate the risks of a sharp move in the financial markets. Based on some of the emails I have received, many are skeptical of the VIX right now, which is trading in the mid 19s, some 5% below its lifetime mean. At 27.54, the VSTOXX (EURO STOXX 50 Volatility Index) is showing much more uncertainty, but even that number is low relative to the range of the VSTOXX for the past three months.
Whether Spain, Italy or Greece is the fixation du jour, the questions investors really want answers to ultimately all cluster around the future of theeuro. I have addressed this question relative to the risk of one or more countries leaving the euro in the context of various Intrade contracts (see links below), but another overlooked manner of measuring risk and uncertainty in the euro is the CBOE EuroCurrency Volatility Index (EVZ). Sometimes referred to as the “euro VIX,” EVZ uses the VIX methodology to measure the market’s expectations of future volatility in the euro. In theory, therefore, EVZ should also be a proxy for risk and uncertainty in the euro. One might even go as far as to consider EVZ as a euro zone fear indicator.
So what is a chart of EVZ telling us on the eve of another euro zone summit?
The chart below shows that at 11.27, EVZ is currently in the lower portion of its range of 9.23 – 20.34 for the past year. Indeed EVZ is only in the 18thpercentile of the range of values over the course of the past year. Also of interest, the current 20-day historical volatility of EVZ (60) is lower than the 180-day historical volatility measure (65) – as has been the case for the majority of the last six months. Last but not least, EVZ has been on a notable downtrend since June 18th.
Headlines aside, traders do not see a lot of currency risk in the euro right now, at least relative to the last year or so and as far as the 30-day forward-looking window defined by EVZ is concerned.
So if you think the VIX is depressed and understating market risk, don’t expect the EVZ to be signaling something different. Currency risk and uncertainty seem surprisingly low at current levels. If you think the market has underpriced the potential for a large move in the euro, then consider some long straddles on the euro or its ETF counterpart, FXE.