NEW YORK (MarketWatch) — Get ready for more rough sailing!
Just in case this week’s string of 200-point-plus swings in the Dow (three in a row and counting, now), whipsawing currencies, and collapsing oil prices didn’t already make it clear, volatility is back. It is going to make trading and investing a heck of a lot more interesting, if not more nerve-racking.
Granted, October historically tends to be the most volatile month for stocks. It is also true that volatility, as measured by the Chicago Board Options Exchange Volatility Index VIX, +24.16% or VIX, an options-based measure of market anxiety, remains below its 20-year average of around 20.8 despite jumping nearly 25% Thursday to its highest level since February.
Still, there is no denying markets have seen extraordinary gyrations this week.
This choppier patch of trading comes after a long period of relative calm (leaving many on Wall Street to wrestle with the question of whether the market’s new state of quiescence would be temporary or more long -lived).
It’s worth noting that we’ve had false starts before. But even geopolitical crises in the Middle East and Ukraine were never enough to provide a lasting boost to volatility.
Now there are compelling reasons to think the very long run of very low volatility is coming to an end.
Markets are entering a phase that should be called the “newer normal,” to borrow a phrase from David Kotok, chairman and chief investment officer at Cumberland Advisors, in a recent research note. Markets are exiting nothing less than a half-decade era of chronic low volatility fostered by ultra-loose monetary policy by the Federal Reserve and other major central banks as they pushed interest rates toward zero and implemented unorthodox monetary policy measures, he notes.
With central banks in lock step, volatility, a measure of the uncertainty surrounding the size of potential changes in the value of an asset, dried up. Measures like the VIX, which is often referred to as Wall Street’s “fear gauge,” fell and remained extremely low by historical standards.
The lack of volatility in turn made for “incredible complacency” among investors, Kotok said in a phone interview with MarketWatch. The concern is that low volatility investors have become too comfortable, leading them to take larger and larger risks.
What’s changed? For one thing, central banks are no longer operating in lock step in the wake of the 2008 financial crisis.
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