The underbelly of the options market is flashing a warning sign for U.S. stock bulls.
As global trade skirmishes intensify and valuation fears stalk technology stocks, investors are forking over cash for tail-risk protection, even as Wall Street’s traditional fear gauge sits at muted levels.
The Cboe SKEW Index breached 150 last week, reflecting a surge in demand for out-of-the-money put options versus calls on the S&P 500 Index.
The SKEW is on track to notch its highest average closing level in history this year, according to data compiled by Bloomberg going back to 1990.
“This has everything to do with trade risk in my view,” said Dennis DeBusschere, the head of portfolio strategy at Evercore ISI.
China is considering declining the U.S. administration’s offer of negotiations later this month after President Donald Trump was said to have instructed aides to proceed with additional tariffs on goods from the Asian nation as soon as Monday, the Wall Street Journal reported.
Historically, the SKEW has hovered around 115, reflecting structurally higher demand for puts over calls. On Friday, it closed at 151.6. To bears, the elevated level is evidence that a blow-up in U.S. stocks -- returns two or more standard deviations below the mean -- may be nigh.
Valuation View
Another interpretation? Derivatives traders aren’t inclined to bet stocks will surge higher.
The index could merely be signalling that demand for out-of-the-money calls is weakening after the S&P 500’s 12 percent recovery from a February low. Rather than fretting a catastrophic downturn, investors may simply fail to see much upside.