Reading through some Q3 market commentaries, I came across this interesting tidbit:
"The story of Q3 was the same as the story in Q1 and Q2: historic losses in both stock and bond markets as the Fed aggressively raised rates, leaving traditionally diversified portfolios nowhere to hide.
US Stock markets closed at their lows of the quarter and the year, as did bond prices, with both falling for each of the first three quarters - a never before seen feat."
When I read "never before seen", my eyes both roll and pop out. In this market environment, looking at equities and bonds both going down, down, down, I am more curious than ever. Especially with the VIX slightly elevated but for the most part stagnant.
However, despite the market moving down, volatility remained fairly elevated but muted. For instance,
The CBOE Put Protection Index fell more than -6% in September and was down more than -20% for the year
A -4.3% S&P loss on September 13th, the worst ever stock market loss with the VIX remaining below 30
After delivering an average annual return of 7.4% since 1982, investment grade bonds are down a whopping 18% YTD (through September)
Moving from investment grade to high yield bonds reduces credit quality from BBB+ to Single B, or worse. 19% of US companies are in the "zombie" zone
So where is the risk? Perhaps it is shifting from downside to upside, with the unknown of not when do we sell off but when do we bottom...
Hedging seems to be quite expensive these days without a lot of bang for that buck. Nevertheless, there is an awful lot of hedging going on. Thus, I was reminded again of what impacts volatility: Carry, Credit, Calendar, Concern, and Capital.
I think that there is a good reason that hedging instruments are being utilized and thus the costs are increasing. However, if we are near the bottom then we should see some changes in the deployment of capital, changes in the cost of hedging, and perhaps even changes to the VIX. Time will tell.....