Regime Shift in Equity Vol? Downside Risks Re-Emerge

Link to Report: Macro Volatility Digest

WHAT STANDS OUT:

• Implied volatilities jumped across the board following last month’s hawkish FOMC meeting but they have since diverged quite markedly. While equity, credit, and commodity vols have all normalized meaningfully from their Dec 18^th highs, interest rate and FX implied vols have continued to climb higher on the back of rising monetary and fiscal uncertainty. VIXTLT Index, for example, is up almost 20pts to the 88^th percentile high. 
• The spike in the VIX® index on Dec 18^th was notable for how much it outperformed the sell-off in the SPX® index. Equity spot/vol beta surged higher, more than tripling to a high of -3.3 (i.e. for every 1% drop in the SPX index, an expected increase in the VIX of +3.3 vol pts), exceeding even the extremes we saw in August. See chart below.
• The two recent vol events – happening just 4 months apart – raise the question if we’re potentially entering a new regime in equity vol. Certainly SPX options are pricing in more downside risk, with skew repricing higher as FOMO gives way to caution and demand for hedging picks up. The steepening in skew is happening as we’re finally seeing higher realized vol on market down days than up days – a break from the unusual pattern of the last 3 years where markets have been taking the elevator up and the escalator down.  

Chart: The VIX Index Has Been More Reactive in Recent Selloffs

^{Source: Cboe}

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