Cost of Hedging Weekly Update 11-8

by Jay Pestrichelli on November 8th, 2012

As expected, we’ve seen a spike in the cost of hedging after the election sell-off yesterday. And while at close yesterday the mid-term levels weren’t that far out of line at 1.48 basis points per day, the story was really the short-term protection.  Popping to 1.36 basis points per day, the short-term cost of hedging hit the top of its range not seen since the first week of September.  In reality the level has truly risen to the average no seen the mid July time frame.
 
See data for the past 15 months on our Resources Page
 
As you may recall, July was the time we were finishing up the “Sell in May” market move this year. Yes this in itself is interesting, but what is more telling is the closing of the gap between the short-term and long-term costs. Typically, we’ve seen bull market movement when the short-term is lower than the mid-term cost and bear market movement when the reverse is the case.  We’re not there yet, but that seems to be the way the options market is trending.
 
On the flip side of the outlook, the VIX has remained remarkably steady by all this. Bad storms and elections have not shaken the fear indicator outside its normal range. Yes there was a pop on Wednesday, but looking at today, its already begun to retrace despite a down day in equities.  This is a more bullish sign and one that if, you believe we’re going to have a sell-off, is something to take advantage of.
 
We are considering taking advantage of this lower than expected VIX level to extend the hedges that we have expiring next month or January early. If the market is about to get rocky, we’d rather put our protection in now than wait for it to get expensive.
 


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