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Complacent: Investors Asleep At The Wheel?

  • Written by Syndicated Publisher 46 Comments46 Comments Comments
    December 1, 2011

    Hard to believe how complacent the equity market is right here. Wednesday the central banks announced a coordinated foreign currency swap program to bypass an interbank system that is no longer functioning. Let me repeat that “an interbank system that is no longer functioning.”

    Ill informed market participants take that to mean the Federal Reserve is printing money and bailing out Europe and the dash to own equity, risk assets begins. At the same time the cost to insure that investment as measured by the vix and the implied volatility falls.

    Reminds me of the adage of how market reaction to the initial FOMC statement is always wrong. So if the FOMC announcement causes a spike in the SPX give it time and that move will reverse itself. Uniformed investors unfortunately do what they are told by people who are just as uninformed and love to shoot first and aim next.

    So amidst the backdrop of many large banks some larger than the GDP of their own country are possibly days from failing, the third largest bond market in the world no longer self funding and China having to reverse monetary policy as the threat of slowing growth is now greater than inflation and people see that as an opportunity to take risk. Apologies for such a long sentence.

    Look at the chart below. Look at the fall in the vix (inverted right scale) and the fall in the implied volatility skew. Investors are buying neither in the money or out of the money put protection. The last time such a divergence was seen the SPX experienced a major and sudden selloff that the vast majority missed. Perhaps the other adage of the market loving to fool the majority of participants will be proven correct once again.

    Images: Flickr (licence attribution)

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