A late-summer lull is nowhere to be seen in the stock market, with traders recalibrating their expectations after a blunt warning from the Federal Reserve chief in Jackson Hole. Most likely, they have a long ways to go.
So say derivatives strategists at Bank of America Corp., who point to a disparity in price-swing expectations in equities and other asset classes.
The S&P 500's rebound in the two months through mid-August sent the Cboe Volatility Index, or VIX, into a dormant zone next to similar gauges in the rate or currency markets.
The rude awakening that Jerome Powell's speech has been to U.S. shares means that investors need to catch up in pricing policy risk.
"Equities have been particularly complacent about the changed macro environment and policy setup, where the Fed fighting inflation through financial conditions means risk asset rallies both force and allow them to hike more aggressively," Bank of America strategists including Gonzalo Asis wrote in a note to clients.
"As investors return from Labor Day, we believe there is still plenty of room for equity vol to catch up with levels of stress in other asset classes," they said.
Mathematically, no strict tick-by-tick correlation between volatility gauges in stocks and other asset classes is present, but a conceptual link still exists. Jitters in markets elsewhere create conditions where the cost of hedging against swings in equities should go up.
