Correlations closed the week at .92, effectively spending the entire week above .90. The entire correlation surface out to 200 days is red.
This has been bullish on a 50 day timeframe based on the data we track (about 15 years worth).
It is important to understand the current volatility dynamics when taking into account the above forecast. The dynamics indicate that the path to day 50 from now is extremely uncertain. 30 day historical realized volatility along with VIX are suggesting 1 day moves between 2 and 2.5% and short term vix (9 days) is suggesting 1 day moves between 2.5% and 3%.
Fitting the current volatility dynamics to history we see that the VIX is at the 95th percentile in its volatility cone – indicating that subsequent realized volatility should settle lower 95% of the time.
An interesting dynamic that we would like point point out this week is the large VIX tails (on the daily candles) occurring on Tuesday and again on Friday. The chart below shows the spread between VIX and 30 day historical realized volatility.
Last Friday (Feb 28th), VIX-HRV spread closed near the 100th percentile of the data we have. Subsequently a massive rally ensued on Monday, effectively closing the spread (realized volatility up and vix down).
On Tuesday, the Fed announced the emergency rate cut. The VIX was repriced to a low of ~25%. The prior day closing historical realized volatility was ~35%. This was a 10 point intraday inversion of HRV over VIX or basically 1st percentile on a closing basis. This inversion got erased by the end of the day and the spread closed with the SPX selling over over 4% from the highs.
On Wednesday the opposite happened the spread closed at 3 percentile. The VIX was under HRV by about 7 points (32 vs 39).
Thursday closed flat – then again on Friday there was a large intraday disconnect. At the highs VIX was 55% while HRV was 40% – 15 points and again 100th percentile. This is when the subsequent rally ensued into the end of day. The spread closed relatively neutral.
So what is the point of bringing this all up: The options market is pricing VIX at 100 and 1st percentile relative to HRV on an intraday and closing basis all week. Each day extremes have been a fade – whether intraday or closing. The main premise behind the fades – in my mind, is when volatility is so high based on an implied and realized basis – large disconnects, especially 100 and 1st percentile should not exist. This is why they were faded each day – and it is something we want to pay attention to in the coming weeks if volatility of volatility remains high. When the reading is neutral – like end of day Friday, we think directional moves are more likely to stick (won’t be faded).
That’s all for this weekend lets see what Monday brings, thanks.