Advertisement
U.S. Markets closed
  • S&P Futures

    5,204.50
    -10.25 (-0.20%)
     
  • Dow Futures

    39,188.00
    -35.00 (-0.09%)
     
  • Nasdaq Futures

    18,164.25
    -67.25 (-0.37%)
     
  • Russell 2000 Futures

    2,045.70
    -4.10 (-0.20%)
     
  • Crude Oil

    82.58
    -0.14 (-0.17%)
     
  • Gold

    2,162.70
    -1.60 (-0.07%)
     
  • Silver

    25.26
    0.00 (0.00%)
     
  • EUR/USD

    1.0872
    -0.0005 (-0.0435%)
     
  • 10-Yr Bond

    4.3400
    +0.0360 (+0.84%)
     
  • Vix

    14.33
    -0.08 (-0.56%)
     
  • GBP/USD

    1.2720
    -0.0009 (-0.0700%)
     
  • USD/JPY

    149.2960
    +0.1980 (+0.1328%)
     
  • BTC-USD

    65,906.53
    -1,723.70 (-2.55%)
     
  • CMC Crypto 200

    885.54
    0.00 (0.00%)
     
  • FTSE 100

    7,722.55
    -4.87 (-0.06%)
     
  • Nikkei 225

    39,459.57
    -280.87 (-0.71%)
     

Is low volatility a sell signal?

Is low volatility a sell signal?

With market volatility at pre-crisis lows, concerns are rising that complacency may herald a selloff, but some analysts believe fundamentals are driving the decline in risk.

"Quite a lot has recently happened in terms of geopolitical risks, oil prices etc. and yet volatility has not budged," Klaus Baader, chief economist for Asia Pacific at Societe Generale (Euronext Paris: GLE-FR), told CNBC. "It's not just equity volatility. It's bond volatility; it's FX volatility. It's all massively low."

But Baader attributes the low volatility to fundamentals, rather than signs of market over exuberance.

"The amount of liquidity that central banks have been providing is taking risk duration out of the market," Baader said, adding that economic data have also shown low volatility, with volatility in U.S. non-farm payrolls data, for example, at the lowest since 1960.

Read More Beware bumpy markets when rates rise: BIS

The low volatility is also consistent with high profit margins and low leverage in the U.S. corporate sector, Societe Generale said in a note last week, adding that high margins imply low fixed costs and reduced earnings volatility.

Baader doesn't expect market volatility will pick up anytime soon.

"Right now, all the central banks are trying to give clear guidance and it's hard to see volatility turning around in a big way," he said.

Others also aren't overly concerned by low market volatility.

"There is little relationship between market volatility and future equity returns over any time horizon," Citigroup said in a note last week. "Current low levels should not be seen as a clear sign of investor complacency and an imminent market correction."

Citigroup also points to the central banks' easy policies, which have sent investors scrambling for yield, as well as lower volatility in corporate earnings.

Read More Low market volatility-a plus or storm ahead?

"Quantitative easing has not just propped up asset prices, it has also helped to stabilize economies and corporate profits," it said. "As long as the eventual withdrawal of quantitative easing coincides with continued fundamental stability, then there may be less of an increase in market volatility than many fear."

Another reason low volatility may not herald a sell off: previously, when the CBOE Volatility Index, or the Vix, traded around current levels, it has presaged good, not bad, market performance, Citigroup (NYSE:C - News) noted.

When the Vix hit current lows in July of 2005, it was followed by U.S. equities rising another 27 percent toward their 2007 peak and in 1993, the Vix also hit current levels and was followed by a 240 percent U.S. stock rise before the 2000 peak, Citigroup noted.

Although it ticked up a bit last week, the Vix is trading around levels last seen before the financial crisis.

Read More Commentary: Don't sweat the low volatility in this market

However, Citigroup noted low volatility isn't across the board. While index volatility may be declining, "style volatility" -- or volatility in investment themes such as growth versus value -- is up, making things tough for stock pickers, it said.

In addition, past performance doesn't always signal future gains.

Societe Generale's Baader believes "unknown unknowns" pose risks to market equilibrium.

"When volatility is this low, then it tends to shoot up the other direction when something big, really unexpected happens," he said.

"Everybody is pretty much positioned the same way," he said. "If an unknown unknown suddenly happens, then you're going to get a pretty bad setback," he said.

Others also don't expect the market will keep their poise.

"We do not expect the current period of calm to last," Jack Allen, an economist at Capital Economics, said in a note Monday. "As the global economic recovery continues, there are plenty of challenges to be faced, and possible policy mistakes, that could cause volatility to rise again."

Central banks will eventually need to tighten policy, introducing uncertainty not seen in developed economies for years as well as challenging policy makers' communications strategies, he said.

Read More Will long-short stock funds make a comeback?

Another risk: policy makers may make mistakes, potentially tightening too late or too soon, Allen said.

An even stronger warning came from the Bank for International Settlements (BIS) over the weekend. In its annual report, the BIS said it believes markets are becoming "euphoric," and are not pricing in risks.

But even those who believe the risk of a market crackup is real don't necessary see the low volatility as a sell signal.

"We have to be in [the market] because there's no alternative right now," Hans Goetti, head of investment for Asia at Banque Internationale a Luxembourg, told CNBC. "Cash is a difficult argument to make when interest rates are near zero and inflation is on the rise. You have to invest in something," he added.

He prefers equities to bonds, and advises buying gold as a small portion of a portfolio as an insurance policy.

-By CNBC.Com's Leslie Shaffer; Follow her on Twitter @LeslieShaffer1



More From CNBC

  • Beware bumpy markets when rates rise: BIS

  • Low market volatility-a plus or storm ahead?

  • Don't sweat low volatility in this market: Insana

Advertisement