New York, November 27 - Despite record-high U.S. stock prices achieved by the market in the aftermath of the election, the demand for options that hedge against a market crash is on the rise.
Following President-elect Donald Trump's triumph earlier this month, concerns about the likelihood of a contentious election faded, contributing to the S&P 500's (.SPX) record-breaking ascent. One indicator of market unease, the Cboe Volatility Index, finished Tuesday close to its post-election low of 14.10.
On Monday, a number of barometers measuring the demand for protection against big market swings reached a two-month high of 167.28. These indexes include the Nations TailDex Index (TDEX) and Cboe Skew (SKEWX), another measure that shows how the market perceives the possibility of big price fluctuations.
Options on the Volatility Index (VIX) that provide protection in the event of a market decline are an example of this need to hedge against "tail risks." A measure of the intensity of demand for these contracts, the VIX three-month call skew is near its highest level in more than five years, according to research by Susquehanna Financial Group.
"The general idea is there is an 80-95% chance of pretty low volatility, that's why the VIX is relatively low, but there's just more of a tail event being factored in," explained Chris Murphy, co-head of derivative strategy at Susquehanna. According to UBS equity derivatives strategist Maxwell Grinacoff, investors may be concerned about facing a similar risk in the coming months, similar to Trump's tariff pledge on Monday.
"It gives people a reason again to start hedging," said the economist. "You've seen more of a return to downside hedging again."
Investors are also concerned about the Federal Reserve's ability to decrease interest rates in the coming months. This is because central bankers are confronted with an economy that is stronger than projected, which could lead to inflation if monetary policy is eased too much. On December 17th and 18th, the Federal Reserve will have its final monetary policy meeting of the year.
Market volatility may be exacerbated by the war between Russia and Ukraine as well as the conflict between Israel and Hamas.
In 2018, stocks peaked at the beginning of the year before plunging as stories about trade and tariffs dampened growth expectations and volatility increased across asset classes, according to UBS’s Grinacoff. Next year might be similar.
"Warranted, in my opinion," he stated, about the desire for protection from investors.