By multiple measures, the stock market is the calmest it’s been since the end of 2021.
JPMorgan quant guru Marko Kolanovic says the equity market is far too placid right now, considering all the headwinds it’s facing.
He says technical factors are suppressing volatility in the face of rising rates, credit tightening, and macro risks.
The stock market is awfully quiet right now. Perhaps too quiet.
Price swings are muted no matter how you look at them. On a forward 30-day basis — something measured by the VIX, which is commonly referred to as the stock market’s fear gauge — traders are expecting the lowest volatility in more than two years. On an actual realized basis, the past 30 days have also been the most placid since 2021.
That calm stands in stark contrast to all the headwinds currently swirling. One major force is rising interest rates, which have been consistently hiked by the Federal Reserve for more than a year in an attempt to cool inflation. Yes, inflation has come down, but the central bank has yet to signal it’s ready to pump the brakes.
Those rising rates have led to a tightening of credit availability, a dynamic reinforced by recent banking-system turmoil. There’s also the ever-looming geopolitical overhang of the Russia-Ukraine conflict, and the widespread impact it’s had on energy and foreign-exchange markets.
The chart below shows just how range-bound markets have been so far in 2023, relative to the second half of 2022. While multiple asset classes match up closely with their prior range, none does so more than equities.
Marko Kolanovic, JPMorgan’s chief market strategist and co-head of global research, agrees with anyone who says the forces outlined above should be roiling markets. The fact that they’re not, he says, boils down to temporary technical factors. Once those are removed, watch out.
Kolanovic specifically references the dominance of option sellers, whose activity he says drives intraday stock-price reversions, which naturally leads to flat trading for the overall market. That subdued volatility then prompts mechanical buyers — like volatility-targeting and risk-parity funds — to add exposure. The net result is a market that seems strangely unbothered by negative headwinds. (For context, the VIX generally trades inverse to the S&P 500, so gains in stocks are usually accompanied by a low VIX reading.)
“This market dynamic artificially suppresses perceptions of macro fundamental risk,” Kolanovic wrote in a new client note on Monday.
The key word there is “artificially,” which conveys the unsustainable nature of the market’s current placidity.
Kolanovic took his commentary a step further and offered a recommendation for further rallies in stocks: as soon as you see a bounce, hit the sell button and take some profits.
“Robust fundamentals bode well for 1Q earnings results, but we advise using any market strength on reporting to reduce exposure,” he concluded.
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