Stocks are slumping and the Cboe Volatility Index – known as the VIX – is showing signs of life once more. VIX futures indicate that investors predict a volatility spike in the near future.
Will it happen?
With a SCOTUS seat to fill and a presidential election on the horizon, there’s ample reason to be wary of market instability.
Especially now that President Trump says he’ll contest the results of a loss due to fraudulent ballot stuffing, which he (and many others) claim is a foregone conclusion of allowing mail-in voting. Similarly, the Democrats won’t sit idly by and let Trump declare victory without a fight. Apolitical rioters will undoubtedly join-in on the chaos that unfolds in America’s major cities.
Historically, it’s a bit of an anomaly for the market. Investors have typically expected a drop, not a spike, in volatility after a U.S. presidential election. But the idea of either candidate contesting the results is simply too much for some traders to stomach as market-leading tech stocks linger near their monthly lows.
“Investors are pricing in the chance that the election will be messy and contested, the results potentially delayed, and the outcome unacceptable to a large portion of the country,” explained Steve Sosnick, chief strategist at Interactive Brokers.
Dating back to America’s foundation, nearly every presidential election has been followed by a peaceful transfer of power. This year, however, that could change. Maybe even regardless of who wins.
What is certain, though, is that stocks would drop in response to a contested transfer of power. But what follows would be anyone’s guess. The market could come roaring back as bulls look to snap-up undervalued shares, only to plunge once more.
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Even now, with civil unrest hitting a fever pitch, Americans are buckling down for the worst. U.S. gun sales have soared, to the point that firearms are now sold-out in most parts of the country. Meanwhile, law enforcement is withdrawing from America’s most troubled neighborhoods amid calls to defund the police.
The last time this happened was in 2012, following the Trayvon Martin case and Ferguson, Missouri riots. The police pull-backs spawned the controversial “Ferguson Effect” theory, which many experts point to as the cause for a tragic surge in violent crimes among minority communities. Detractors of the theory argued that anti-police protests had little effect on crime statistics.
These days, however, protestors are legitimately calling for a measurable decrease in police presence – something that’s already happened in certain cities, where law enforcement is being replaced by unarmed civil servants.
But still, even among all the turmoil, bulls need to remember that the U.S. economy is in an economic recovery. Corporate earnings will eventually make a comeback, especially among downtrodden cyclical stocks, and revenues won’t get whacked by political instability.
Not immediately, at least.
So, instead of dumping stocks and heading for the hills, selling cash-secured puts – puts that you have the cash to cover, if assigned – might be the better idea. If the market goes up or continues trading sideways, you’ll collect some easy premium.
If stocks drop, you’ll instead get assigned at a lower price, provided the put’s strike is 5-10% below the current price of the stock (or index ETF, in the case of the SPY). It’s a great option for bulls that aren’t so convinced the market’s ready to make another leg up in a major way.
And with the VIX expected to rise, it’s a good time to be a put writer.
All while option premiums climb higher and higher on a glut of volatility.