Credit Suisse Low Volatility Theory

It’s one of the most common questions on Wall Street: Where has all the volatility gone?

Between D.C. drama, geopolitical uncertainty surrounding North Korea and President Donald Trump’s tweets, investors have had ample reasons to hit the sell button. But 2017 is shaping up to be one of the least volatile years on record.

And according to a new report by Credit Suisse, big market moves may not return anytime soon.

The firm says the market’s lack of volatility is the result of stocks moving independently of one another, a dynamic broadly referred to as correlations. According to Credit Suisse’s research, three-month correlations in the market have fallen to their lowest level since 2000.

“The extreme sector dispersion explains why index moves have been so muted this year, as the market has really been driven by sector rotation,” wrote Mandy Xu, chief equity derivatives strategist at Credit Suisse and author of the report on sector correlation breaking down.

In other words, while the market appears calm on the surface, many stocks are seeing big moves independent of one another; however, those moves in single stocks cancel each other out when they are grouped into a broader index, leading to muted daily market moves.

Xu points to tax reform uncertainty and investors being caught off guard in the recent sector rotation as the drivers of low correlations in the market. According to the strategist, as long as stocks continue moving independently of each other, the broader market will remain calm.

“If this continues, expect to remain in a low volatility regime for longer,” she added.

via CNBC

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Alfonso Esparza

Alfonso Esparza

Senior Currency Analyst at Market Pulse
Alfonso Esparza specializes in macro forex strategies for North American and major currency pairs. Upon joining OANDA in 2007, Alfonso Esparza established the MarketPulseFX blog and he has since written extensively about central banks and global economic and political trends. Alfonso has also worked as a professional currency trader focused on North America and emerging markets. He has been published by The MarketWatch, Reuters, the Wall Street Journal and The Globe and Mail, and he also appears regularly as a guest commentator on networks including Bloomberg and BNN. He holds a finance degree from the Monterrey Institute of Technology and Higher Education (ITESM) and an MBA with a specialization on financial engineering and marketing from the University of Toronto.
Alfonso Esparza