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Hedge funds are 'dancing on the rim of a volcano'
(SocGen says hedge funds shorting the VIX are "dancing on the rim of a volcano."Reuters / Stringer Chile)
The market is calm. Perhaps too calm.
The lack of price swings has investors mired in a sea of complacency, which has them ignoring potential risks, says Societe Generale.
The firm specifically cites the CBOE Volatility Index — or VIX — which is used to track nervousness in the US stock market.
Not only is the so-called fear gauge locked near the lowest levels on record, but hedge funds are betting it'll decline even further. Their VIX positioning is the most bearish on record, according to data compiled by the US Commodity Futures Trading Commission.
"Compare that with dancing on the rim of a volcano," a group of SocGen strategists led by Alain Bokobza, the firm's head of global asset allocation, wrote in a client note. "If there is a sudden eruption (of volatility) you get badly burned."
(VIX positioning for hedge funds and large speculators is the most bearish on record.Societe Generale)
This isn't the first time SocGen has issued a warning about low volatility. Two weeks ago, the firm drew parallels to conditions leading up to the 2007 financial crisis.
Describing the current situation as a "dangerous volatility regime," the firm cited the strong mean-reverting tendency of price swings as a big reason why investors should be bracing themselves.
Other heavyweights in the investment field have also spoken out about the low-price-swing situation that they see as untenable. In late July, JPMorgan global head of quantitative and derivatives strategy Marko Kolanovic compared rock-bottom volatility to the conditions leading up to the 1987 stock market crash.
In a recent interview with Business Insider, Laszlo Birinyi, the investment guru who predicted the bull market and has been repeatedly correct over its 8 1/2-year run, said that betting on the VIX is a "quick way to lose money."
But it appears traders have yet to listen. In recent months, they've continued to pile into bets that markets will continue to sit still, while viral tales of huge profits made shorting volatility have likely inspired copycats anxious to make a quick buck.
And while many experts are quick to warn against low volatility, there's no broad consensus around what will shake the market out of its slumber. Complacency indeed.
(Markets Insider)
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