UBS Head of Equity Derivatives Research, Stuart Kaiser, joins Yahoo Finance to discuss what to expect in case of possible incoming volatility and how investors should position themselves towards tech stocks.
JULIE HYMAN: And as we try to figure out where we go from here, a lot of people have been talking about higher volatility potentially coming as we hear more from the Fed. One of the people who studies that very closely is Stuart Kaiser. He's UBS head of equity derivatives research. Stuart, it's good to see you.
One of the charts that you sent to us has to do with the relationship between the VIX, the S&P 500, what is implied in the VIX and what actually happens. And the way I read this chart-- and perhaps I didn't read it correctly-- is that the VIX doesn't really predict that well or as well. I don't know. Am I reading this correctly?
STUART KAISER: Hey, good morning, Julie. The VIX is, I guess, the market's best guess at where volatility is going to be. It's also not directional, I think, which catches some people by surprise,
I would say, where we sit today is the VIX has come off a little bit of where we go last week in the FOMC. It's pricing a fair amount of risk both today and over the next three to six months. And I think, from our perspective, it is that next three to six months part that's probably the most important.
The front of the curve, the spot VIX, is going to move based on what the S&P is doing on a given day. But those longer-term VIX futures are giving you some sense for how much uncertainty the market expects over the medium term. And I think if there was one takeaway from the Fed is that there's a lot more uncertainty about what that base case is kind of three to six months out. And we would expect that part of the curve, that part of the uncertainty pricing to remain a little bit elevated as the market kind of tries to digest exactly what they heard last week.
MYLES UDLAND: And Stuart, we've talked about this a couple of different times over the last few months. But as you look out over the next few years, I mean is that environment that we were in for so long, '17, '18 even go back '13, '14 of low teens VIX for a long time as people just bet on low vols. Do you feel like that environment is on the horizon here? Or has the pandemic and the way the VIX curve changed during that event, set things may be a little higher here for the foreseeable future?
STUART KAISER: Oh, I think for the balance of the year-- our view is VIX average is 20 to 22 in the first half and kind of 16 to 18 in the second half with that second half kind of having a little bit of a vent risk baked into it as well. But ultimately, what determines the VIX is how volatile the S&P 500 is.
And what we saw ahead of the FOMC is you had realized volatility on the S&P in the 5% to 10% range. So I don't think it's outside of the question that the VIX would get down to those teen levels. And we did see it print 15 a couple of weeks ago.
So the front can get down there. I think there's two questions. The one is how sustainable that is. And last week, we saw that calm can be sort of flirting with you but then disappear. And the second is, again, how does the market think about the three to six-month period. So I think, again, that three to six month period stays high. But I don't see any reason why the VIX can't be in the mid-teens again in the second half of the year.
I think most investors would view that as a buy because of the amount of risk that's bouncing around. But I don't think it's outside of the realm of possibility that we could get back down there.
BRIAN SOZZI: And we had the opening bell on Wall Street as the market tries to claw back from, really, some heightened volatility, like Stuart was just talking about after that Fed meeting last week. Stuart, you mentioned in your note that folks should start positioning for just a move forward, a move higher in large cap US tech stocks. What's the trigger for that? Because I'm not hearing a lot of folks positioned for that trade right now.
STUART KAISER: Look, our view is essentially that once you got past all of this macro data, that being the employment report then the inflation data and then the FOMC, the market would start to reorient itself to 2Q earnings. And we do think 2Q earnings are too low and need to be revised higher. And what we've seen the last two quarters is tech actually performs generally quite well during the heavy part of earnings because, frankly, those are the companies that are generating strong earnings.
So I think there's two reasons to like tech here. One is the fundamental piece, which I just went into. And the second would just be that tech doesn't like inflation very much. And I think that's one of the reasons it was under so much pressure a couple months back. But tech actually deals with higher real yields a little bit better. And coming out of the FOMC, that's the mix we're seeing in the market, which is inflation expectations or breakevens lower but interest rates higher. And that's actually a bit better for tech than it is for something like small cap.
So from my perspective, the fundamentals, I think, are going to help tech over the next, call it, four to six weeks. And I do think the macro setup is, if it's not favorable, it's less of a negative than it was a couple of weeks back.
JULIE HYMAN: And Stuart, another group that I know you've been watching the options activity on is energy. Obviously, we have seen underlying oil prices go up. We've seen energy stocks recover to some extent. And it looks like there's a lot of options-linked interest in the group as well. So what happens next there?
STUART KAISER: It's a good question. I think energy, materials, and even financials, to some degree, we have seen a massive uptick in the amount of options trading and particularly to the upside. The last week or two, a lot of it has started to back off in terms of both energy and materials. And I think that's the whole inflation story. What inflation was rising, people wanted to own those commodity sectors.
Now it seems like the Fed was paying a bit more attention to inflation than maybe we feared they were. And the options activity in energy and materials has come down pretty substantially. And what we're seeing is a little bit of a rotation into tech.
So I think the question is going to be here is, we were priced very dovishly going into the Fed. We appear to now be priced quite hawkishly. Clearly, the right outcome is somewhere in the middle. So will energy benefit from a rebalancing of those expectations? Potentially. I think right now though, what we're seeing is people are readjusting their expectations, a little bit less excited about those, quote, unquote, "reflation" sectors and maybe focused a little more on tech at the moment.
JULIE HYMAN: Yeah. Equilibrium is sometimes difficult to come by when it comes to equity markets. Thank you, Stuart, appreciate it. Stuart Kaiser is UBS head of equity derivatives research.