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Implied Volatility Rising, and This Could Be Very Telling

Changes in volatility structures are always of interest, as volatility is the epi-centre of markets. It defines what currencies we trade, what strategy we employ, how much risk we take on and helps us achieve correct position sizing.

Implied volatility

If we contrast the slight grind higher in US equity index IV, to the sizeable increases in implied volatility in gold (white), bonds (green), FX (purple) and oil (red), as factored year-to-date, we can still see implied vol in equities while turning higher, is still far lower than other markets. Will, that change like we saw in May?

Equity vol is turning higher though, as traders feel price moves will divert increasingly from a mean and variance will therefore pick-up. And, if I look at the Nasdaq 100 (NAS100), we can see a strong underperformance overnight, with a fall of 1.7%, vs a 1% decline in S&P 500. The daily set-up looks interesting, with price having printed a bearish momentum crossover, as price closed through the recent uptrend. A break of 7600 takes the index to 6934 (the major double-bottom), and if risk aversion does pick-up from here as we navigate through the G20 Summit, the NASDAQ 100 would be the weapon of choice for me.

US consumer report

While we tend not to look backwards, the overnight US consumer confidence report requires attention, with the headline report dropping a sizeable 9.8 points to 121.5. While this needs in-depth investigation, but overlap US consumer confidence (white), with the S&P 500, and periods of recession (in the US), and suddenly we pay attention here. Especially given turning points in US consumer confidence have played out before key drawdowns in the S&P 500. One the equity bears will now be keen to follow.

We can also look within the consumer survey and see the ‘labour market differential component’, which looks at respondents (of the survey) who said “jobs are plentiful” versus “jobs that are hard to get”. Here, I have inverted the chart (the white line), to better highlight the correlation with the US unemployment rate. Thus, we find the move lower in this survey (we see this chart higher) could lead to a higher unemployment rate. Another red flag to watch going forward, as the labour market, as it is in most other economies, is key.

Another talking point was the fact that while we heard from Fed governor Powell, it was comments from St Louis Fed governor, James Bullard, that stole the limelight, causing US 2-year Treasury yields to push up about five basis points, and USDJPY 50-pips, although traders eventually faded the move. Along with Nael Kashkari, we know Bullard is the big dove on the Fed board, so it won’t surprise that he is arguing for an “insurance cut” at the July FOMC meeting.

However, when the market has gone some way to pricing in a 50bp (or 0.5ppt) cut at this meet, and they hear Bullard say the “situation does not call for 50bp”, we take notice. It is a reason why we have seen a ‘doji’ candle and indecision in the USD index (USDX), with a rejection off the 200-day MA. It is why USDCHF has stabilised, although price printed a lower high and remains contained into the 5-day EMA. And why EURUSD has moved back to 1.1357.

Gold

We’ve seen gold sellers, and that will not surprise given how frothy things had become, and we had seen price push into $1440, which was a full 100% extension of the measured move off the May lows. If The market is questioning a 50bp cut then that, in itself, has been enough to see a few gold longs take some exposures off the table. The market wants to buy dips here though, so we look at $1400 (the 23.6% fibo retracement of the 31 May rally) ahead of $1376 (38.2% fibo).

USD/CAD

USDCAD is on high alert, with price looking like it wants to break the double bottom at 1.3150 – flip to the 4-hour chart, and we can see how price has reacted to these horizontal support/resistance levels. A break of 1.3150 on the 4-hour would be a trigger, but, of course, when we are trading, it’s all about the price behaves when we do see these breaks that matter most.

AUD/CAD

Expect shorts in AUDCAD to get attention too, specifically, should price close firmly below the recent double bottom.

The CAD has performed well in G10 FX in the past two sessions, largely as a result of a better feel to crude, which found a bid on the back of the API (American Petroleum Institute) crude inventory report overnight, showing a 7.55m barrel draw. Traders will see the API inventory report and extrapolate this outcome to the more influential DoE (Department of Energy) inventory report. The DoE report is due at 00:30 aest, two hours after the US durables good report, and with consensus estimates calling for a 2.83m barrel draw in crude inventories, US crude probably needs to see a drawdown of over 4m barrels or the risk is we see sellers. Should we see over 4m barrel draw and it could hold push CAD through these key levels.

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Chris Weston, Head of Research at Pepperstone (Read our Review)

This article was originally posted on FX Empire

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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