Rotation Out of Tech Likely Not a Sign of Impending Risk-off

Summary

Contagion risk caused by a moderate rotation out of technology appears quite low. Short volatility strategies are still thriving and the correlation of implied volatility (i.e. perceived risk) across major asset classes is declining.

Comment

Short volatility strategies have thus far gotten off the hook after another period of high (negative) correlation to U.S. Treasury volatility. The chart below shows the correlation between the S&P 500 Put Writing Index and mutual funds employing the shorting of volatility to U.S. Treasury volatility (MOVE Index).

Bouts of U.S. Treasury volatility tend to occur during rapid ascents in yield. Drawdowns by these short volatility strategies tend to occur when risks between equity and bond markets become aligned. But, not this time (so far)! Recent turmoil across technology stocks have also had little impact on these strategies.

 

 

Financial media is chock-full of potential contagion risks due to technology stocks’ recent missteps. The next chart shows the implied volatility for the NASDAQ (VXN) and S&P 500 (VIX) with their spread in the bottom panel. The more tech-heavy NASDAQ is again showing a rapidly rising divergence from the S&P 500 only seen for a brief period in April 2014 and earlier this year in June.

 

 

But, the volatility found behind returns of major tech firms remains very low according to historical standards. The next chart shows implied volatility trends based on options for Amazon, Apple, and Google. We seasonally-adjusted since options activity has a defined rhythm. 

 

 

Concern of contagion is lacking with implied volatility across major asset classes near post-crisis lows. The chart below makes use of the CBOE’s indices of implied volatility (using options) for major ETFs. The average across available risk asset series is highlighted in dark gray.

The recent shedding of technology by investors may very well be a good old fashioned rotation instead of ‘risk-off’ reaction.

 

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