Ok we have had our fair share of event risk so far this year. Ukraine, Israel, Portugal to name but a few….and we now have Yellen telling us that the Fed may hike the rates earlier than forecast. And guess what ? The Vix is still trading in the low bottom quartile.
Though my shock Index (ratio of VIX volga and Vix over 21 days) did venture above its long term median value on the back of the Portugal news, all of my risk indicators remain well entrenched in risk seeking territory….
My 2-state Markov model continue to sell volatility…I am not sure I would but I can t fault the outcome of the model so far.
Bearing in mind the above I am still a bit quizzical as of why risk is trading so low. We are getting indeed very little reaction from events that once would have sent the VIX flying into the 20 to 25% range . The only rationale I have is that Investors are now accepting that growth is significantly taking hold and therefore investment flows are logically channelling into risky assets and carry trades. Also there is now a strong understanding that central banks are determined in doing whatever is necessary to support growth and rid of systemic risk. This clearly has a strong dampening effect on any risk spikes, but lets not get too complacent about it…
As it has been a while since I have posted something and my broken arm is no longer a valid excuse , I thought I would provide an update on trends in US mutual funds flows. To my surprise, bearing in mind the current geopolitical risks, there has not been much change over the last few weeks. US investors have held onto their preference for international equities whilst staying shy from the US stock markets. Also the trend of inflow into bonds remained despite growing expectation of the Fed becoming more hawkish down the line. The map below shows the T-stats of the inflow/outflows across different time periods.
Clearly the dovish tone adopted by the Fed has helped both the trend in equities and also bonds. The question is how long can this last ? Clearly the strengthening observed in the US job market demonstrates that significant growth has rooted. Down the line this will create an issue for the fed, as managing rate expectations whilst turning away from a dovish stance may prove challenging. To me the most interesting point of all is how US investors voted with their money. As can bee seen from the below charts they have stayed well away from US equities whilst investing in Foreign equities. In fact out of the US$ 133 bn invested in US mutual funds 44 % (US$ 59 bn) went into foreign equities so far this year, whilst US$ 5bn came out from US Stocks funds.
As said in my previous posts I believe that what we are seeing could be a good explanatory variable as of why the dollar has been so weak and particularly against the EURO despite the monetary expectation in Europe and the US. Bearing in mind the current market positioning and central bank flows it may well be that the EURUSD is currently undervalued….