Stock volatility has receded in recent days, and some investors have bet the tranquility will persist. Derivatives traders have increased positions that pay out if market swings dwindle and stocks continue to climb. After the Dow Jones Industrial Average recorded the biggest drop of the year on Wednesday, major indexes have rebounded, rising for the third consecutive day Monday. That has sent a measure of market turbulence, the Cboe Volatility Index, or VIX, lower. It fell by 8.6% to 16.88 Monday, the lowest level so far this month. Leveraged funds like hedge funds recently increased bearish wagers on futures linked to the VIX to the highest level since September, Commodity Futures Trading Commission data as of Aug. 13 show. There are almost five bearish contracts outstanding for every bullish one held by leveraged funds, the data show. A bearish bet on the VIX is akin to a bullish one on stocks, since the volatility gauge and S&P 500 tend to move in opposite directions. Investors can tap futures to make directional bets or hedge other parts of their portfolios. The positioning indicates traders “aren’t concerned about volatility spikes that are sustained,” said Joanne Hill, chief adviser for research and strategy at Cboe Vest Financial, in an email. Investors have boosted bearish positions against the VIX this August. The optimism in derivatives markets comes as other market signals, like an inverted yield curve last week, have spooked investors. Inverted yield curves are sometimes read as a sign of a potential recession ahead. The development caused anxiety among investors last week and helped send the Dow down 800 points in a single day, the biggest drop of the year. Taking the bond market cue as a warning signal, some investors turned to protection in the derivatives market, driving up the levels of near-term VIX futures. Now, some investors are back to loading up on stocks, and volatility has retreated. Potentially assuaging some of the fears surrounding the inverted yield curve, the S&P 500 has historically risen after the yield curve has inverted. The index has logged positive returns six months after the yield curve has inverted about 88% of the time, according to data from Credit Suisse Group. Do you believe volatility will continue declining? Let the author know your thoughts at gunjan.banerji@wsj.com. Emailed comments may be edited before publication in future newsletters, and please make sure to include your name and location. |