Reflections on recent volatility

Euan Sinclair

Need to know

• This was a case of the volatility tail wagging the equity dog.
• The fact that volatility started from such a low level made the move even more dramatic.
• Rebalancing of the essentially short gamma volatility ETNs further pushed implied volatility levels to the point where the credibility of those products is in question.

Abstract

The equity volatility in the second week of February 2018 was unprecedented. Volatility events do not generally erupt from nowhere and, by a number of measures, 2017 was one of the least volatile years ever. Further, the increase in volatility was dramatically greater than would normally follow from the equity movement. Option sellers were hurt, and there were major repercussions for volatility exchange-traded notes, where issuer rebalancing exacerbated the move. It is likely that, in future, this space will be restructured and greatly diminished in volume and importance.