Count On Volatility

I would like to expand a little on the topic of my Thursday post which submitted that 2015 will most likely be remembered as one nasty sideways high volatility wood chipper, inflicting massive losses on both bulls and bears alike. As we are gradually transitioning out of a QE fueled artificially engineered bull market fear and confusion are slowly replacing an abundance of greed and complacency (just look at the daily VIX before August). And that really should not be any surprise to anyone – it’s been a lot of fun and laughs over the past seven years but the end of the line is in sight and it’s now time to pay the piper. Please understand that I make this point without any ulterior motives or allusions of possessing any predictive powers.

All we have to do is to listen what the tape is telling us on a daily basis. There really isn’t much to it – assuming you somehow manage to quiet down the incessant cacophony of your own ego emitting a never ending stream of opinions and distractions. After all in this, the greatest game of our time, we are often our own worst enemy. But even the thickest mind should should have a hard time refuting that we are not in any trending phase right now and that in fact intra-day volatility has become the name of the game. It remains to be the one constant we can depend on these days. Whereas the direction of the (mostly bullish) trend and BTFD was the modus operandi over the past few years, catching the next sharp turn remains the only way to extract yourself a modicum of ill gotten gains. Thus as successful traders your primary concern should not be direction – it should be volatility.

Which appears to be expanding – and has been slowly all year. Not that the VIX would have offered you any indication whatsoever as to clear and present downside risk I was highlighting right here at Evil Speculator on a regular basis starting as early as late last year. Everyone out there was simply in a holding pattern, waiting for one last push higher – just like drug addicts begging for just one more hit before committing themselves to face cold turkey.

It’s been a while since we’ve experienced conditions such as these and the only other analogy in recent history is the big shake out in 2011. If you compare what happened then you’ll find the same pattern:

1. Sideways topping pattern after a massive squeeze that lasted months.
2. Fast drop to the downside.
3. High volatility shake out period.
4. Resolution.

Now if you look at the current year you see an almost identical pattern, however there are some crucial differences I would like to point out as well.

1. Starting late last year we experienced a sideways topping pattern with increasing volatility. Again the VIX was ignoring it all, except during quick drops which served as buying opportunities. However things were already starting to slow down in 2014 – the buying frenzy that preceded 2015 was the result of a big correction which spiked the VIX all the way to 25.
2. The fast drop played out just like it did in 2011 – even the magnitude of the correction is roughly the same.
3. The current high volatility directional guessing game is per the same script and what will follow late this year or early next year is the final resolution.

Of course the direction that the fourth phase is going to take us is the topic in everyone’s mind, and as always (un)educated predictions are as ubiquitous as lofty theories as to what the Fed or the ECB may do or say next. But before you go and throw your own 2 cents into the big smoldering stew of opinions ask yourself this: How accurate have your own predictions and assumptions been in the past few months or in the past few years? Were you the one who traded the SPX all the way from 667 to 2100? If so then please go ahead and bet the house. I for one will continue doing what I have been doing pretty effectively since I started to see the light sometime in early 2010 – simply follow the tape and leave academic theories to the professionals. After all – I just work here and the day you start taking things personal or seriously is the day when you should call it quits.

Never take advice from anyone in a tie. They’ll bankrupt you. Don’t ask a general for advice on war, and don’t ask a broker for advice on money. — Nassim Nicholas Taleb

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Cheers,