"Equity markets have finally woken-up after a period of low volatility and complacency that had led to rapid gains", said James Knightley, chief global economist at ING. As the following chart shows, the drop that followed across the globe wiped out $4 trillion in world stock market capitalization, and world stocks have reversed their 2018 gains.
The "fear index" rose a further 7% to 39.94. How does higher volatility cause stock prices to fall?
Second, there is implied volatility.
"But the path from here to that point is likely to be somewhat disorderly". Above all, make sure you are invested in high quality investments and proven portfolio strategies that will allow you to ride through market corrections with confidence.
Dusaniwsky noted that with Credit Suisse (CSGN.S) announcing on Tuesday that it would terminate its XIV ETP fund, short sellers will have to buy back shares to cover their short positions on or before February 20th, the last day of trading for the product. Investors have become increasingly aggressive, whether buying or selling.
The two volatilities are related.
Though estimates of how much money is actually parked in such strategies are hard to come by given a general lack of transparency, some broad numbers exist. This may be what happened with the recent volatility spike. Corrections occur about once a year on average.
Currency markets in particular, have largely remained unaffected by Monday's market moves, with traditional safe havens such as the Japanese yen and Swiss franc benefiting only marginally. Because there's been very little for more than two years, investors taking such bets have earned handsome returns.
Nobody is quite sure exactly what caused the market crunch and the volatility spike, but some of the key protagonists in this drama seem to be a group of hedge funds and exchange-traded funds that had large short volatility positions.
"The party may be over for now but this could be more of a sobering correction than a rout", said Jacob Deppe, head of trading at Infinox. Indeed, three month implied volatility for the euro this week is well below 2017 highs.