Volatility Returns on Election Uncertainty
The Quick Read:
- Volatility returns to the markets over renewed uncertainty in the outcome of the November 8th Presidential election.
- Crude and energy stocks retreat amid ongoing doubts of a November 30th OPEC production cut that would raise crude oil prices.
- The Fed kept interest rates unchanged after its November meeting but set a more hawkish tone for a December rate hike.
SPX (S&P500) vs VIX
Since last Monday, the S&P500 has been on an 8-day losing streak, down almost 3%. The primary driver has been the recent tightening in the US Presidential election on Tuesday, November 8th. Markets don’t like uncertainty and a sell-first, assess later approach is the typical norm. Stock valuations are relatively high (as of yesterday the S&P500 had a very robust P/E ratio of over 24) so a pullback to calmer, and less valued, waters isn’t a surprise. In this same pricing period the VIX Volatility Index (Ticker: VIX) has jumped almost 70% to close out yesterday at 22.08. In a nutshell, the VIX is used by the marketplace as a “fear indicator”. It quantifies the level of uncertainty in the marketplace using a weighted-average formula calculated off a strip of SPX option contracts. Now, is there a need to panic based on a 70% jump in the VIX? Not necessarily. The historical mean of the VIX is around 20. In times of relative calm it can dip in the low teens. On the other hand, the VIX reached the 80’s in the weeks and months that followed the collapse of Lehman Brothers in September 2008. A VIX price of 22.08 is just a return to average to reflect a movement from relative recent calm to the uncertainty of the Presidential race. As the upcoming days and weeks unfold, the VIX can be a valued indicator to track the level of uncertainty in the marketplace.
Crude Oil
After a month of stability above the $50 mark, late last week crude oil began a steady 15% decline after talks among OPEC and non-OPEC leaders to curb oil production failed to achieve any substance. The meeting, a precursor to OPEC’s November 30th conference, is being used to address the massive global crude oil inventories that have decimated oil prices and producers the past few years. As previously mentioned, the key to success, and the source of prior failed negotiations, is to gain a consensus on which OPEC members will be included or excluded from proposed production caps. Despite rhetoric from key officials, the market appears increasingly skeptical that such consensus can be achieved. First, many of the OPEC members clamoring for production cuts continue to produce crude at or near historic levels. Second, OPEC remains committed to maintaining its global share of the crude production market. Any OPEC-led production cut will in fact raise prices, but will also further invite non-OPEC countries, primarily the US, to expand its oil producing capabilities as higher prices make once dormant facilities now profitable. On Wednesday, the U.S. Energy Information Administration weekly report sent further shockwaves through the crude markets as US crude inventories soared by a massive 14 million barrels. This was the single largest buildup in weekly inventories in recorded history. In short, don’t expect a surprise turnaround by the November 30th meeting as OPEC members will continue pointing to other member countries, and not themselves, to be the subject of production cuts.
Fed Chatter
On Wednesday, as expected, the Fed voted 8-2 to leave rates unchanged. Also as expected, the Fed reaffirmed indications of a December rate hike. In the past few weeks, CPI (inflation) has increased from 1.1% to 1.5% and 3rd quarter GDP is expected to grow at a 2.9% annualized rate, up from a much disappointing 2nd quarter GDP of 1.4%. Inflation and GDP have consistently been the thorn in the side of the Fed, as low inflation and less than stellar economic growth have stymied their desire to raise rates. Inflation is still below the Fed’s target rate of 2.0% and the sudden increase in GDP has yet to prove any staying power. However, in its policy statement on Wednesday, the Fed will simply be looking for some economic progress to justify the next rate increase. The October employment numbers were released this morning, and though not “great”, are enough to propel the Fed to a December rate hike.
Looking Ahead
The Presidential election is on Tuesday, November 8th and will serve as the key driver of events in the financial markets.
Mark M. Grywacheski, Investment Advisor
Opinions expressed herein are subject to change without notice. Any prices or quotations contained herein are indicative only and do not constitute an offer to buy or sell any securities at any given price. Information has been obtained from sources considered reliable, but we do not guarantee that the material presented is accurate or that it provides a complete description of the securities, markets, or developments mentioned.
Quad Cities Investment Group, LLC is a registered investment advisor with the U.S. Securities Exchange Commission.