Time for a slice of vol?

March 27, 2012

As the global markets consensus shifts toward a “basically bullish, but enough for now” stance — at least before Fed chief Bernanke on Monday was read as rekindling Fed easing hopes — more than a few investment strategists are examining the cost and wisdom of hedging against it all going pear-shaped again. At least two of the main equity hedges, core government bonds and volatility indices, have certainly got cheaper during the first quarter. But volatility (where Wall St’s Vix index has hit its lowest since before the credit crisis blew up in 2007!) looks to many to be the most attractive option. Triple-A bond yields, on the other hand, are also higher but have already backed off recent highs and bond prices remain in the stratosphere historically.  And so if Bernanke was slightly “overinterpreted” on Monday — and even optimistic houses such as Barclays reckon the U.S. economy, inflation and risk appetite would have to weaken markedly from here to trigger “QE3″ while further monetary stimuli in the run-up to November’s U.S. election will be politically controversial at least — then there are plenty of investors who may seek some market protection.

Societe Generale’s asset allocation team, for one, highlights the equity volatility hedge instead of bonds for those fearful of a correction to the 20% Wall St equity gains since November.

A remarkable string of positive economic surprises has boosted risky assets and driven macro expectations higher but has also created material scope for disappointment from now on. We recommend hedging risky asset exposure (Equity, Credit and Commodities) by adding Equity Volatility to portfolios.

 

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