Some hedge funds are betting that fears over a delayed and disputed US presidential election result are overblown, and that stock market volatility will simmer down in the coming months.

The Vix volatility index, which measures near-term expected swings in S&P 500 equities — as implied by options prices — climbed for much of October over coronavirus nerves and the approaching US presidential contest. It stood at 35 on Tuesday, compared with a long-run average of about 20.

Many investors expect that volatility to last: President Donald Trump’s equivocation on whether he would accept a loss has also caused Vix contracts maturing in November, December and even into 2021 to trade above where they normally would, according to traders. But some hedge funds think those concerns of lasting volatility are unfounded.

Jason Goldberg, a senior portfolio manager at volatility-focused hedge fund Capstone, said he was betting that US stock market derivatives expiring in 2021 were pricing in too high a probability that turbulence would last.

“That’s not to say there are other issues the market won’t have to contend with, namely Covid and the size of fiscal [stimulus],” he said. “But . . . I still don’t think that justifies a Vix of 28, six to seven months from now.”

Line chart of Non-commercial positions in Cboe Vix futures (number of contracts) showing Hedge funds have lifted their bets that volatility will drop

Nerves remain elevated in what has been a turbulent year for markets. The Vix, sometimes called Wall Street’s “fear gauge”, has consistently stayed above its long-term average in recent months, even though US stocks remain within 7 per cent of all-time highs.

But for four straight weeks, “non-commercial” traders, a group that includes hedge funds, have boosted their wagers that futures tracking the Vix index will decline, according to data from the Commodity Futures Trading Commission.

READ ALSO  Sweden Unexpectedly Expands QE By 40%

This bet on lower volatility has only slowly gathered steam. But strategists said that along with similar bets in the options markets, where traders can bet on the price of assets such as stocks and currencies, hedge funds and other investors saw a world with a lower Vix.

Line chart of volatility points, showing that the Vix has remained above realised volatility since July

Greg Boutle, BNP Paribas’ head of US equity and derivative strategy, said data suggested some investors were placing “volatility compression” trades, albeit carefully.

Tindaro Siragusano, chief executive of 7orca Asset Management, which runs about €400m in its volatility strategies, is among those betting on stability by selling insurance against turbulence in stocks and other financial markets.

“We’re earning good money right now,” he said. A big sell-off in stocks following the result “is not our base case”, he added.

Line chart of number of outstanding derivative contracts on the Vix (m), showing that investors have turned to put options as they wager on a drop in the Vix

Buying put options on the Vix, which profit if the index declines, has been a more appealing wager for some. The number of outstanding puts on the index has climbed to its highest level since June, outpacing the number of open call options — which would profit if the Vix rose — according to Bloomberg data.

Betting on lower volatility is “timely”, according to strategists with Goldman Sachs. They estimated the Vix pointed to 1.9 per cent average daily moves for the S&P 500 in the coming month, almost double the level observed in October.

Via Financial Times