CIO at ipac Jeff Rogers has contended that last week’s Wall Street fall was worsened by asset allocation strategies and products with links to the VIX, or fear index, more than any significant re-assessment of fundamental outlook.
The Dow Jones Industrial Average fell 1,175 points last Monday – its largest fall in six years and followed a 666 point fall on the preceding Friday.
The VIX measures the stock market’s predictions of volatility and allows investors, through options, to insure against major share market moves.
As such, as investor uncertainty rises and the share market increases in volatility then the price of insurance option contracts increases, as does the VIC index.
Speaking in an AMP Capital insight, Mr Rogers said, “To be sure, investors are right to be more worried than before about inflationary pressures arising from improved global economic conditions, the associated upward revision on the future path of interest rates and how that in turn impacts the valuation of share markets.
“However, I would suggest that these expectations haven’t changed anywhere near as rapidly as market prices. Investment products linked to the VIX appear to have amplified the recent market adjustment.”
Continuing, he said that assets and strategies without links to the VIX, like fixed income and currency markets, had a more orderly adjustment.
Mr Rogers said that while the VIX was initially designed to measure volatility expectations in the US share market, it now allows investors to bet on volatility’s performance itself through derivative instruments and exchange-traded products.
“This has introduced the possibility of a destabilising feedback loop because there is often a requirement for these funds to quickly sell market exposure in response to a rise in volatility,” he said.
“This action can, in turn, push VIX even higher. That appears to have been the case this past week.”
Yesterday, SPDR rejected criticisms that ETFs (exchange-traded funds) were to blame for the Wall Street fall, urging investors to remember that exchange-traded notes, while a potential culprit, are distinct from ETFs.
The investments products manager at the ASX, Andrew Weaver, said criticisms of ETFs’ role in the sell-off were “doomsday advice” from the active managed sector.
Noting that there was a slight increase in sellers in the ETF sphere over the days of the fall, Mr Weaver said, “The 6 February [trading] was really the only day when there were net sellers when the market was down 3.2 per cent, so even the days when it was sort of less large drops – Monday and the Friday when there was 1.5 per cent an 0.9 per cent respectively – there were net buyers of ETFs on both those days across the board.”