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Volatility Update: Post-Election, Term Structure, Sector Volatility

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November 17, 2016
Universe horizon: What is the future for market volatility now that the U.S. elections are over?

When the dust had settled on the U.S. election results Wednesday, November 9, the S&P 500 opened modestly lower (although S&P 500 futures were down 5% overnight) before turning positive and scoring a two-day 28-point uptick. The advance capped a four-day rally that resulted in a nearly 3% gain for the S&P 500, which pushed it to within striking distance of record highs. Yet, while stocks advanced in the days after the election, sector performance was not equal. The volatility landscape changed as well.

VIX Recedes Along with Election Fears

The CBOE Volatility Index (VIX) reached multi-month highs in the week prior to the elections before starting a descent into the actual November 8 vote. Although trading in overseas and futures markets proved quite turbulent while the electoral votes were being tallied Tuesday evening, the U.S. equities market opened in steady fashion Wednesday and VIX continued to tick lower. By Friday, it was back in the mid-teens. Figure 1 shows the volatility index on Friday—back around 15, not far from where it was a month ago. The VIX closed the week at 14.17.

CBOE Volatility Index, VIX

FIGURE 1: CBOE VOLATILITY INDEX IS TICKING HIGHER.

The market’s “fear gauge” rose sharply prior to the elections, then fell. Data source: CBOE. Chart source: the TD Ameritrade thinkorswim® platform. For illustrative purposes only. Past performance does not guarantee future results.

VIX tracks the expected or implied volatility priced into a strip of S&P 500 Index (SPX) options, and it’s not unusual to see it move lower when the equities market heads higher. In the two days after the elections, we can see from the table below that the S&P 500 was up 1.3%. At the same time, the gains were not equal across all sectors. Several saw much greater moves. In fact, many of the leading sectors heading into the elections, like health care and utilities, were the biggest losers Wednesday through Thursday. Meanwhile, financials were notable laggards throughout 2016, but then performed the best after the elections. 


November 9-10, 2016YTD
Financials
8.1%
3.3%
Technology
-1.7%
10.7%
Energy
2.1%
14.9%
Materials
3.3%
8.8%
Consumer Staples
-4.0%
4.4%
Consumer Discretionary
0.6%
0.8%
Health Care
4.7%
-5.1%
Utilities
-6.0%
13.6%
Industrials
3.5%
9.8%
Telecom
-0.1%
5.6%
S&P 500
1.3%

4.7%

Data source: S&P Dow Jones Indices. For illustrative purposes only. Past performance does not guarantee future results.

Making Sense of a Mixed Market

When some sectors perform well and others suffer losses, the net result is sometimes narrow movement in the broader market and grinding action in averages like the Dow and S&P. This pattern helps to explain why the S&P 500 seems to be making relatively little progress in recent months and is basically at the same level now as in mid-July.

From a volatility perspective, the return of mixed trading is somewhat of a return to normalcy, even if the political landscape has changed. Notice the term structure of VIX options on November 7 (figure 2, left), the day before the elections. It shows that the very short-dated (S&P 500) implied volatility had reached extremes and the VIX “curve” was in a state of backwardation. This typically happens during times of uncertainty when investors are concerned about the outlook for the equities market in the short term.

VIX term structure

FIGURE 2: VIX TERM STRUCTURE.

Before and after the U.S. elections. Data source: CBOE. For illustrative purposes only. Past performance does not guarantee future results.

The right-hand chart in figure 2 shows the VIX term structure post-election. It has returned to a state of contango, where the longer-term contracts are higher than the short-term ones. This contango curve is what we usually see in orderly markets, or when fears about a short-term, market-moving event have receded. An anticipated event added an element of perceived risk to the market, the event passed, and short-term volatility returned to its range. The rest of the term structure stayed relatively static before, during, and after the election.

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