A couple weeks prior to the US Presidential election, most polls suggested that Hillary Clinton's ultimate ascendancy to one of the world's top jobs was mostly a foregone conclusion.
Now. with only a handful of days remaining until November 8th, polls are suggesting that the race may be tightening - at least in terms of the popular vote (the electoral college being more difficult to "poll").
With market consensus suggesting that a Donald Trump victory could mean increased volatility, traders are likely following election-related news coverage a little bit more closely as we enter the final lap of the democratic process.
The reality is that nobody knows what's going to happen in the markets over the last couple months of 2016, no matter who wins the election.
Because Hillary had been leading in the polls, and is expected by most to be the more "status quo" choice, it's certainly reasonable to expect that a Trump victory could represent a "surprise" and move markets “unexpectedly.” But that's only one opinion, and not necessarily what will be observed in the wake of the election.
One interesting aspect of the tightening of the race, however, is the notion that market insurance (i.e. option premium) has increased due to added uncertainty over the outcome. The VIX has risen from roughly 13 to 19 since October 24th, so option premiums have undoubtedly been on the rise.
How much of that spike in the VIX can be assigned to the election is more debatable and will only become more clear in hindsight.
What’s also interesting is that during this period we’ve observed days where the S&P 500 and the VIX both experienced “up” days. Most tastytraders will already be aware that the S&P 500 and VIX are inversely correlated - meaning one usually goes up when the other goes down, and vice versa.
However, as noted in a recent episode of Options Jive, that isn't always the case. From 2004 to present, 9% of all trading days saw an increase in both the S&P 500 and the VIX.
Since implied volatility isn't increasing due to selling in the market on those days, the rise in VIX is therefore attributable to an increase in perceived future volatility. Naturally, one might wonder how often an increase in perceived uncertainty correctly predicts future market activity.
Fortunately for those reading this blog post, the Options Jive team at tastytrade has provided some basis for analyzing this question.
Looking at the aforementioned data from 2004 to present, a study was run which analyzed the average movement of the SPY in the 45 days after the S&P 500 and the VIX were both up (9% of trading days). The guys also analyzed the average 45-day movement of the SPY under 3 other scenarios:
when the S&P 500 and VIX were both up (9% of trading days)
when the S&P 500 and VIX were both down (8% of trading days)
when the S&P 500 was up and the VIX was down (46% of trading days)
when the S&P 500 was down and the VIX was up (37% of trading days)
The results of the above study showed that the category in which the S&P 500 and the VIX were both up observed the smallest average overall move in the S&P 500 during the following 45 days.
For a complete review of this material, we recommend you watch the full episode of Options Jive when your schedule allows.
Managing market risk is one of the most important factors of success for any trader, so before the election it’s additionally recommended that prior to the election you review your portfolio to ensure it matches your outlook and risk profile.
If you have any questions or comments on the above information don't hesitate to reach out at email@example.com.
And whatever you do, don't miss the tastytrade Election Un-Special this Tuesday!
Sage Anderson has an extensive background trading equity derivatives and managing volatility-based portfolios. He has traded hundreds of thousands of contracts across the spectrum of industries in the single-stock universe.