Opportunity in Volatility – Long S+P500, Short Vix, avoid China equities.

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Opportunity in Volatility – Long S+P500, Short Vix, avoid China equities.

2 November 2018 ASX Equities News Technical Analysis Trade ideas USA Equities 0

Opportunity in Volatility

We have been watching the October 2018 roller coaster ride of equities falling and volatility rising.

Yes there have been some big falls across major indices. Notably in China, USA and Australia. There are some fundamental reasons to explain these movements, and also technical reasons why it should rebound in the short term.

Key Links: https://www.marketwatch.com/story/octobers-mini-crash-is-setting-the-stage-for-a-happy-ending-2018-11-01 

https://www.bloomberg.com/news/articles/2018-11-02/u-s-payrolls-rise-above-forecast-250-000-as-wage-gains-hit-3-1?cmpid=socialflow-facebook-business&utm_medium=social&utm_content=business&utm_source=facebook&utm_campaign=socialflow-organic

Fundamental reasons for falls

  • US Interest rates expected to rise, as well as Bond Yields.
    • Increased risk free rate (government bonds, and perhaps term deposits) return
    • Lower risk assets will be more attractive as it reduces the market premium of owning risky assets like equities (shares).
  • Equities have been over priced for too long, the fundamentals are not supporting blue sky (no pun intended) share prices.
  • If there is a wobble at a top then leveraged and margined equities holdings will exit quickly, increasing the speed of any fall.
  • US economy continues to do well under President Trump’s administration
    • Unemployment low
    • Wages rising
    • Tailwinds to support more interest rate rises with the Fed to counter expected inflation.

Technical reasons for rebound up in the short term.

  • Vix (volatility index) did not near February 2018 highs, and oversold readings now apparent. Likely to drop.
  • Sellers forced to sell have now already sold. Buy and hold investors are now holding.
  • Buyers can come in and snag bargains if they believe previous highs will be touched again.
  • While the risk free rate is expected to climb, it is largely tied to the US FED and whether they will raise rates aggressively.
    • However US inflation is still not exceeding current target range so we doubt rates will rise aggressively.
    • Wages are rising but inflation is still subdued.
    • Interest rates rise to counter inflation which isn’t rising aggressively.
  • We saw the ASX200 have its biggest one day rise of the year today, indicating a return to confidence.
    • Australia is trade exposed so this is a positive sign to continued return to calm.

Trade Ideas: Short term 2-30 days.

  • Long S+P500
    • We expect a rebound up to September levels in the next 30 days..
  • Short VIX
    • We expect volatility to fall as calm returns. Curently ~18, likely to touch ~14 in the next 2 weeks.
  • Long ASX200
    • Australia is expected to rise as US equities rise.
  • Avoid Chinese Equities
    • These were too inflated with easy credit that has since petered out.
    • Current talk of a government stimulus might inspire some rising prices but still prone to more falls. Avoid for time being.

UPDATE: We see in the news that Warren Buffet and Berkshire Hathaway had resumed buying. When others are greedy, be fearful and when others are fearful, be greedy.

UPDATE: There now appears to be a medium term downward trend across risk assets. We are looking to go short on risk on equities and long on risk off assets eg gold. Volatility downwards also presents opportunities.

This is not financial advice, see our Disclaimer.

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