Time Of Year
I’m hesitant to include this category; investors tend to overestimate the importance of seasonal effects. Most are a function of noisy data rather than well-established phenomenon. That said, as I’ve written about in the past, the one exception appears to be the fall, more specifically September, when markets do tend towards weakness. As stocks sell off, volatility is typically higher. Over the past quarter century the VIX has averaged over 22, the highest of any month, in September.
Other than seasonality, none of the above provides much information on when volatility will revert to something closer to fair value. The best clue is likely to come from a familiar source: the Federal Reserve (Fed). Volatility has leaned towards being undervalued for much of the past five years. To my mind this is largely a function of ultra-accommodative monetary conditions. To the extent the Fed tightens a bit faster than the languid pace discounted by markets, that would likely be a catalyst for some mean reversion in volatility.
When and if that does occur, investors should probably expect at least a 5%-10% correction. Historically, the S&P 500 has declined by around 1.3% for each one point rise in the VIX. Should the VIX over-correct and rise back towards the highs hit in January, investors could be looking at something more nasty. The difference between these two scenarios: the Fed’s willingness to allow monetary policy to revert to something resembling normal.
Russ Koesterich, CFA, is head of asset allocation for BlackRock’s Global Allocation team.