MARKET RISK REPORT. (Un)happy New Year

Transcription

1 MARKET RISK REPORT (Un)happy New Year February 2016

2 Executive summary Volatility trends were again sharply upwards during January, with the exception of government bonds. Volatilities ended mostly High (but low for government bonds) relative to their 12-month averages. Realised volatility (of Eurostoxx equities over 30 days) rose from 25.2% to 27.1% (High). Equity market price moves were large and downwards; volatility trends were upwards. Sector volatilities ranged from 16-26%, although Energy rose to 4. All major sectors had High volatilities relative to the last 12 months. Sovereign bond prices resumed their upward moves during the month. Bond volatilities were generally down ending at 3-6% (and 0.8% in Japan). Germany, US and Japan were all low. FX moves were large, with the euro again strengthening by 1-3% vs other major currencies. Volatility trends were mostly downwards: e.g. /$ down to 8.. Volatilities were generally low to medium compared to the last 12 months. Option volatility will have been relatively high as volatility of volatility was relatively unchanged but moves in underlying prices were large during the month. Volatility of volatility for the US fell to 148% (High). Commodities price moves were once again sharply downwards. Volatility moves were also upwards: e.g. Oil up to 64% (High). Real Estate (equity) price moves were again strongly downwards. Volatility changes were sharply up: to 23% in the US (High) and up to 25% in Europe (High), and Japan up to 38%. PE Funds and Hedge Funds prices fell again, with volatility trends mixed. Niall O Connor

3 Table of contents 1. Summary volatility matrix p Key News p Kurtosis & correlation in the equity markets p Equities p Equity Implied Volatility p Fixed Income p Foreign Exchange p (Equity) Options p Commodities p Real Estate (Real Estate Share Prices) & Alternatives p

4 Summary volatility matrix Volatility changes were sharply upwards for a second month. Volatilities were divided by asset class though: equities, commodities and property were generally high, while government bonds were low. After a poor year in 2015 (US equities, government and investment grade bonds and cash all returned close to zero) 2016 is looking even tougher, with only government bonds and gold in positive territory. Last month we mooted how a cash call on sovereign wealth funds would impact global markets? Well, we have found out. We still see this flow-related impact as the main driver of markets currently. Markets are moving more in the absence of macro or corporate announcements than when they are made. It feels very much more flow-driven, and the flows coincide with oil price moves. Equities are now highly correlated to the oil price. The global cost curve for oil production suggests that $25-$30 represents a key level below which a large amount of production becomes unprofitable, and so we see this as a practical floor for oil. Given that we are close to that level we should therefore be close to a peak in outflows. Geopolitics is likely to remain a big issue for as long as prices stay below around $50. By country the clear losers are Saudi, Nigeria and Venezuela (and a host of much smaller oil producers). But on the other side of the production/consumption spectrum are China, Singapore, Japan, Spain and Germany all of which stand to be big beneficiaries of lower oil prices. What we still have yet to see is the positive impact from lower commodities prices (effectively a negative tax for consumers), and with more spending power upwards wage pressures are likely to remain low (keeping interest rates down) and the consumer is likely to remain positive. How much this can offset the obvious stresses that have been built in by the huge shift in oil economics remains to be seen. ASSET CLASS EQUITIES VOLATILITY OF VOLATILITY GOVERNMENT BONDS FX VS $ COMMODITIES PROPERTY ALTERNATIVES KURTOSIS CORRELATION AREA LATEST VOLATILITY LATEST Z-SCORE REGIME North America 22.7% 1.5 HIGH Asia ex-japan 23.1% 1,8 HIGH Europe 25.4% 1.3 HIGH Japan (Nikkei) HIGH Energy 39.6% 2.4 HIGH Consumer Staples 16.2% 1.5 HIGH Financials 21.9% 1.8 HIGH IT 25.5% 1.8 HIGH Volatility of VIX 148% 0.2 medium Volatility of VSTOXX 138% 1,0 HIGH Germany 4.3% -0,7 low US 3.5% -2.1 low Japan 0.8% -1.3 low Italy 5.8% 0.0 medium /$ low /Yen 8.8% -0.5 low /CHF 3.4% -0.5 low / 11.1% 0.9 HIGH Oil (Brent) 64.3% 1.7 HIGH Gold medium Copper 24.6% -0.1 medium US 23.2% 1,5 HIGH Europe 25.2% 1,2 HIGH Japan 38.4% 3.0 HIGH HFRX Global HF 4.5% 0.4 medium Avg PE Fund 6.8% -0.1 medium ZCF 1% left (vs for normal curve) Average market correlation with euro equities low 21% 0.1 medium Note: Throughout the text we refer to volatilities as being "low", "medium" or "High". We define this by defining three equal "sized" regimes over the last 12 months. i.e. High volatility implies that volatility is in the upper third of its statistical range over the last 12 months. The table shows the "z-score" of the volatility of each market, i.e. how many standard deviations above (or below) the mean over the last 12 months each market's volatility is. 4

5 Key News Major Volatility-Driving Events There was substantial newsflow during the month, both macro and micro. Falling oil prices were a large part of the news. The ECB s Draghi made dovish noises suggesting the ECB would ease again in March, sending european markets higher The Bank of Japan surprised markets with a cut to negative rates. The Yen fell and equity markets and government bonds rallied. The price of oil fell to a new 12-year low caused by the slowing Chinese (manufacturing) economy and increases in production. Stockmarkets sold off sharply on the falling oil (and commodities) prices. The FTSE100 entered bear market territory (more than a 2 fall from its prior peak) Italian banks sold off sharply when the ECB said it was looking to stress test their balance sheets. The EC agreed a process to sell off their bad loans. The EC continued to clamp down on sweetheart tax deals for multi-national corporates The Bank of England said it was not contemplating rate rises North Korea claimed to have detonated a hydrogen bomb, a claim subsequently refuted by the US US car sales recorded their best year ever in 2015 The vehicle emissions scandal spread to Renault and Fiat Chrysler Walmart announced it was closing 269 stores in the US Facebook posted a record quarterly profit. Apple reported the biggest quarterly profit of any listed company ever, but warned of sharply lower iphone sales. Johnson Controls agreed a $20bn merger with Tyco. Sainsbury s made a rejected bid for Home Retail Group. There were plenty of Chinese purchasers: Dalian Wanda bought Legendary Entertainment for $3.5bn, Haier agreed to buy GE s white goods business for $5.4bn, Foxconn reportedly offered $5bn to buy Sharp The US partially lifted sanctions on Iran S&P downgraded Poland from A- to BBB+ Saudi Arabia and Russia drew up new budgets to try to cope with lower oil revenues Venezuela s new government declared a state of emergency and revealed triple-digit inflation and a -7.1% GDP growth The World Bank and IMF began to discuss a $4bn emergency loan to Azerbaijan, which is suffering from the lower oil price China s economy slowed to a claimed 6.9% growth in % 2% GDP ESTIMATES FOR 2016, DEVELOPED COUNTRIES 1% Mar-15 Jun-15 Sep-15 Dec-15 Mar GDP estimates for developed countries were revised down for the US, UK, Japan and Euro area. France and Spain were revised up. 9% 8% 7% 6% 5% 4% 3% 2% 1% -1% -2% US UK Spain Germany Euro Area Japan France Italy Greece GDP ESTIMATES FOR 2016, DEVELOPING COUNTRIES -3% Mar-15 Jun-15 Sep-15 Dec-15 Mar-16 China India Turkey Russia Brazil 2016 GDP growth forecasts for developing countries were also revised downwards for Brazil and India, but slightly upwards for Russia and Turkey. 5

6 Kurtosis in the equity markets The eurozone equity market distribution remained very close to a normal shape during the month. Backtest failures are likely to have been above a normal level over the last month due to higher volatilities, and also higher correlations (see below) CORNISH-FISCHER EXPANSION OF EURO STOXX 50 The Eurozone equity market distribution remained very close to a normal shape during the month. ZCF 1% left Z 1% left ZCF 1% right Z 1% right Methodology To capture a measure of both Skewness and Kurtosis we look at the Cornish-Fischer expansion, which gives a good measure of the tails of the equity market. (We use a 60-calendar day rolling basis). The underlying market we plot is the Euro Stoxx 50, but other equity markets normally show very similar results. We plot on the chart the expected Z-scores for 1% left tail (i.e. a 99% VaR) and a 1% right tail assuming a normal distribution: +/ We also show the Cornish-Fischer expansion result for the same market. This indicates how far from a normal distribution each tail was. On a long term basis on average the tails are slightly fatter than the normal distribution would suggest, which should not come as a surprise. What is perhaps more surprising is how much variation in fat-tailedness there has been; a daily 99% VaR has varied between -1 and -4.5 standard deviations over time. The biggest variations from +/-2.33 came in 2008 and

7 Inter-market correlations with EU equities 10 INTER-MARKET CORRELATIONS 13% AVERAGE CORRELATION North America Japan Bunds (negative) /$ Average Correlations rose during the month, with rising correlations of Japanese equities being the main driver. Average correlation rose from 8% to 21%: from low to medium. MULTI-ASSET PORTFOLIO 3 25% 2 15% 1 5% -5% -1-15% Average asset Multi-asset portfolio Diversification impact 5% AVERAGE VOLATILITIES We also look at a hypothetical multi-asset portfolio consisting of equities, bonds, gold, oil and hedge funds. Average asset volatilities rose again from 17% to 22% during the month, while the benefit of diversification fell slightly from -9% to -8%. In combination portfolio volatility rose from 7.9% to 14.2%. 6.3% PORTFOLIO VOLATILITY Note: The chart shows 30-day correlation over time between different markets and the pan-euro equity market. Higher levels of correlation will in general lead to less ability to diversify risks, and higher portfolio volatility for given position holding volatility. 7

8 Equities Stock price 2000 STOCK PRICE PERFORMANCE: REGIONS (LOG SCALES) 20, NIKKEI ,000 North America Europe Asia ex-japan Japan (rh axis) Market movements were once again large and downwards across the board, with very large moves downward followed by sharp recoveries in the last few days. North America ended the month at -5.3%, Europe -5. and the Nikkei Asia ex-japan was -6.8%. STOCK PRICE PERFORMANCE: SECTORS (LOG SCALES) Energy Consumer Staples IT Financials, rh axis Sector moves were also strongly negative: Energy -2.9%, IT -5.8% but Consumer Staples just -0.1%. Financials fell -9.9% as the prospect of lower rates hurt forecasts for interest income and the risk of slowing economies raised default probabilities % FINANCIALS 5.8% IT 2.9% ENERGY 0.1% CONSUMER STAPLES 8

9 Equities Volatility EQUITY VOLATILITY: REGIONS Between 23%-37% REGIONAL VOLATILITIES 45% 4 35% 3 25% 2 15% 1 5% North America Europe Asia ex-japan Japan (Nikkei) Regional volatility changes were again all sharply upwards, ending between 23% and 37%. All regions had High volatility. EQUITY VOLATILITY: SECTORS 45% 4 35% 3 25% 2 15% 1 5% 4 ENERGY SECTOR Energy Consumer Staples IT Financials Sector volatility moves were also again all upwards. They ended at 16-26%, while the Energy sector rose to 4. All sectors had High volatility. 9

10 Equity Implied Volatility Market-Implied Near Term Outlook Implied Volatility Implied volatilities rose in both the US and Europe. The VIX rose to 20.2 while European implied volatility (VSTOXX) rose to IMPLIED VOLATILITY VIX VSTOXX 15 VSTOXX VIX Implied vs. Realised Volatility (European equity) implied volatility rose, while realised volatility also rose but not as much, so the ratio of implied/realised rose from 88% to 101%. This is now at a neutral level, suggesting that the market saw it as neutral that there would be volatility-inducing news over the next 30 days. IMPLIED VS. REALISED VOLATILITY 45% 4 35% 3 25% 2 15% 1 5% Greece (Jan, Feb) Oil price trough (Jan) Greece (May, Jun) Taper tantrum 2 (Aug) Fed raises, ECB disappoints (Dec) Fed holds, more ECB QE (Nov) BoJ goes 6 negative (Jan) % IMPLIED/REALISED VOLATILITY Implied Realised Implied / Realised (rh axis) Note: Note: the implied/realised volatility ratio gives an indication as to whether the market sees an event in the next 30 days (the implied volatility period) which will increase realised volatility (implied/realised >10, e.g. within 30 days prior to the Greek elections during the Greek crisis) or a period of relative calm after high realised volatility (implied/realised <10, e.g. immediately after Draghi s calming whatever it takes comments). 10

11 Fixed Income 10-Year Government Bond Futures PRICES OF 10Y BOND FUTURES Prices Bond price changes during the month were once again positive. German bonds gained +3.4%, while the US rose +2.9% and Japan +0.9% Spain Yield SPANISH 10Y BOND YIELD % SPANISH BOND YIELDS 1.8% 1.5% Spain Yield VOLATILITY OF 10Y BOND FUTURES 9% 8% 7% 6% 5% 4% 3% 2% Volatility 10-year bond first futures Volatility moves were generally downwards. German bond volatility fell to 4.3% (High down to low) while US bonds fell to 3.5% (High down to low). Japan dropped marginally to 0.8% (low volatility compared to the last 12 months.) 1% Germany US Japan Italy 11

12 Foreign Exchange Prices The euro strengthened again against most other currencies. FX moves were relatively large, with most currencies depreciating vs the euro, e.g. Yen -0.4% and sterling -3.2%. In EM FX most currencies fell a further 1-4% vs the US Dollar. The Argentine Peso lost a further -8%. FX RATES VS. 3.2% vs. 0.4% vs /$ /JPY /100 / (rh axis) 0.90 Volatility FX volatility trends reversed and were mostly downwards. /$ fell back to 8. (High back to low), / bucked the trend and rose to 11.1% (low to High) and /Yen fell to 8.8% (medium down to low relative to 12 month averages.) VOLATILITY OF FX RATES VS. 8. vs. $ 11.1% vs. 8.8% vs. 2 18% 16% 14% 12% 1 8% 6% 4% 2% / /Yen /$ Note: The charts show currencies vs. the. Axes on the first chart are inverted to show conventional currency quotations, but with higher on the chart representing a stronger currency vs. the euro. 12

13 (Equity) Options Option volatility is mainly driven by the volatility of volatility and moves in prices of the underlying instruments affecting options deltas. Volatility of Implied Volatility Volatility of implied volatility fell in the US ending at 148% (High to medium) but rose in Europe to 138% (from medium to High relative to the last 12 months.) Volatility of volatility is unlikely to have been a big driver of option volatility during the month. 45 VOLATILITY OF VOLATILITY % US % EUROPE 15 VSTOXX VIX Major (Regional Equity) price moves (Equity) price moves were sharply downwards during the month. Underlying price moves are also likely to have been a big driver of option volatility, although this is less true for options on bonds. CHANGE IN PRICES OF EQUITY INDICES, 30 DAYS 15% 1 5% -5% -1-15% -2 North America EU Asia ex-japan Japan Note on Treatment: Options show more complex behaviour than the other instruments we look at in this report, so we make some simplifying assumptions. As Calls and Puts are in effect polar opposites and in and out of the money options behave very differently, it is hard to generalise all options behaviour. However, we look at the two key drivers: volatility of implied volatility and major price movements of the underlying security. Implied volatility (via an option's Vega) drives option prices, so a big indicator of option price volatility is the volatility of implied volatility. But usually the biggest driver of individual option prices is the movement of the underlying (via the option Delta): a move in either direction will cause the option to go more in or out of the money (and a corresponding change in the option s Delta and price volatility). As a proxy for this, we look at the 30-day price swing of equity market indices; options on bonds or FX could of course behave differently. The 30-day period is relatively close to the time to maturity of many options. Calls and Puts will respond in opposite fashions: calls becoming more volatile (relative to the size of the underlying notional) as prices rise. 13 Note on Convertibles: Convertibles are in effect a combination of a bond and a call option, with the bond portion usually making little contribution to the instrument volatility unless the option is significantly out of the money. As such, convertible portfolios volatilities will tend to behave similarly to call option portfolios, and this commentary can be applied to convertibles as well as options.

14 Commodities Prices Commodity prices fell sharply once again, with oil falling another -7% to $35. Copper fell -3.2% on the month Gold regained its safe haven status and was +5.3%. COMMODITIES PRICES 7. OIL ,300 1,200 1, % GOLD , % COPPER Oil (Brent) Copper (indexed) Iron Ore Gold (rh axis) Volatility Given the big downward price moves it was unsurprising to see volatilities rise again during the month: Oil rose to 64% (medium up to High). However, Copper fell slightly to 22% (from High to medium) and Gold fell to 14% (from High to medium compared to the last 12 months.) COMMODITIES VOLATILITY Oil (Brent) Copper Gold Note: all prices refer to near futures rather than spot with the exception of iron ore which is a spot price. 14

15 Real Estate (Real Estate Share Prices) REAL ESTATE (REIT) PRICES 2,400 2,300 3,600 3, % EUROPE 2,200 3,200 2,100 3,000 2,000 2, % US 1,900 2,600 1,800 2,400 Europe Japan (rh axis) US (rh axis) 2. JAPAN Real Estate equities prices were again strongly downwards last month; Europe fell -5.3%, US -3.7% and Japan fell by -2.. Intramonth falls were far larger still, with a bounce at the end, especially in Japan due to the Bank of Japan s move to negative rates. 45% REAL ESTATE (REIT) VOLATILITY 4 35% 3 25% 2 15% 1 5% Europe Japan US Volatilities were sharply upwards on the month. The US rose to 23% (medium to High), Europe rose to 25% (medium to High), while Japan rose to 38% (medium to High). Note: Note that for property we look at indices of the share prices of REITs, and not the underlying property directly, for which little real-time data is available. This is usually consistent with funds which tend to invest in property indirectly, e.g. via REITs or property companies. As REITs are usually focused on commercial property, residential property may also follow a slightly different pattern to that discussed in this article. 15

16 Alternatives ALTERNATIVES PRICES 1,250 1,200 1,150 1,100 1,050 1,000 HFRX Global HF (EUR) Avg PE Fund (indexed) PE funds and hedge funds again had down months, even worse than December, with prices down -3.2% and -2.9% respectively. The average hedge fund is now -1 below its 12-month high. 4.5% HFRX volatility 18% 16% 14% 12% 1 AI VOLATILITY 6.8% AVERAGE PE FUND 8% 6% 4% 2% HFRX Global HF Avg PE Fund Volatilities were mixed on the month though: the global hedge fund index (HFRX) fell to 4.5% (from High to medium) and the volatility of an average of PE fund also fell to 6.8% (medium by the standards of the last 12 months). 16

17 Definitions To avoid repetitions, the term volatility refers to annualised, 30-day average realised volatility in local currency unless otherwise specified. As such, it may be lower than, and lag, shorter-term market volatility in times of high market volatility. Charts show data up until 31st January 2016, and the commentary was written on or before 9th February Disclaimer The commentary does not constitute, and is not intended to constitute, investment advice. Any views expressed in this report are based on historical market data and as such cannot be interpreted as being forward-looking, or to constitute forecasts. Past movements are not necessarily indicative of future movements. Employees of IRML/ARKUS FS may hold positions in securities mentioned. All expressions of opinion reflect the judgment of IRML/ARKUS FS at this date and are subject to change. Information has been obtained from sources considered reliable, but we do not guarantee that the report is accurate or complete. This document is not for US clients or distribution to the US. Arkus Financial Services This document is the property of Arkus Financial Services S.A. and should not be copied or distributed to any third party without the prior consent of Arkus Financial Services S.A. Please contact us regarding distribution rights.

18