"When misguided public opinion honors what is despicable and despises what is honorable, punishes virtue and rewards vice, encourages what is harmful and discourages what is useful, applauds falsehood and smothers truth under indifference or insult, a nation turns its back on progress and can be restored only by the terrible lessons of catastrophe." … Frederic Bastiat

Evil talks about tolerance only when it’s weak. When it gains the upper hand, its vanity always requires the destruction of the good and the innocent, because the example of good and innocent lives is an ongoing witness against it. So it always has been. So it always will be. And America has no special immunity to becoming an enemy of its own founding beliefs about human freedom, human dignity, the limited power of the state, and the sovereignty of God. – Archbishop Chaput


Tuesday, December 4, 2012

VIX Rising but still no worries (Yet)

The Volatility Index or VIX, is a useful index for measuring investor/trader sentiment in regards to the broader stock market's health. It reflects option premiums and is therefore a decent way of peering into the thinking of those who write the things and what they are expecting/fearing in the immediate future. As with any market index, it has its shortcomings but all in all, it is remains a good gauge of sentiment.

While the following chart is not scientific it is helpful in understanding the impact of the Federal Reserve's monetary strategies over the past few years.  I prefer to look at this chart as a demonstration of official monetary sector meddling into the affairs of capitalism/free markets.

In simple terms, the lower the index moves, the less fear or concern option writers and thus investors in general have towards the health of the US stock markets. When the index is rising, it reflects unease/discomfort/fear in those degrees.

Note how sharp spikes upward have been accompanied by expectations of the ending of previously announced and implemented rounds of Quantitative Easing. You can see the first of these spikes back in April 2010 when QE1 was coming to an end. It was not long after that the Fed announced the next round of QE, this one involving outright purchases of Treasury bonds. That was good for another outbreak of "DON'T WORRY- BE HAPPYitis" among the Wall Street crowd.

Of course, once that virus ran its course and QE2 expired in the summer of 2011, back came the awful realities of the gargantuan mountain of indebtedness overhanging the US economy. Even with those artificially induced lower long term interest rates, those stubborn consumers were not spending fast enough to offset the proliferation of bad debts, foreclosures and delinquencies. Throw on top of that massive problems in the Eurozone and investors actually seemed to awaken from their drunken stupor of indifference long enough to begin worrying.

"Tsk, Tsk' said the Central planners and out came the European Stability Mechanism in conjunction with the Fed's "Operation Twist" (the sale of maturing shorter dated debt in exchange for the equivalent amount of longer dated debt) and PRESTO! - ALL WORRIES GONE. "I CAN SEE CLEARLY NOW, THE RAIN IS GONE. I CAN SEE ALL OBSTACLES IN MY WAY.... IT'S GONNA BE A BRIGHT, BRIGHT, BRIGHT SUNSHINY DAY".

Down falls the fear level among investors as the injection of drugs courses through their veins. Greece however flared up again, as did Portugal, as did Spain and others in the Euro Zone and that produced a fleeting burst of anxiety/concern among investors early this year. With the ECB and the Eurozone ministers working feverishly to calm worried markets, it did not take long before all was well once again.

Now, as we have entered the final quarter of this year, the Fed has announced another round of QE (QE3), this time consisting of the purchase of $40 billion per month of Mortgage Backed Securities. It is odd, considering the reaction of the market to past pronouncements from the Fed, that the VIX actually spiked a bit higher instead of sinking even further on the news.

The index did move lower however in October when proof of the actual buys under this latest round of QE were evident. However, it should be noted that the index is beginning to rise again.

This is rather noteworthy to me as a trader/chartist. If this was a commodity, I would be looking to buy it based on the chart pattern. It has failed to make new lows and instead has a mini uptrend occurring since August of this year. Could it be that the Fed's QE's are beginning to lose their luster on the markets? Are the amounts considered to be insufficient by the broader market? Or is it perhaps the current "fiscal cliff" talks which are overwhelming trader sentiment in general? Either way, something has this market a bit nervous when compared to the recent degreeof complacency that we have witnessed in response to recent Fed announcements.

This leads me to believe, based on the analysis by Goldman last week and the comments from some current Federal Reserve governors, that another round of QE (QE4) is forthcoming. The Fed is simply not getting enough bang for their buck from QE round 3.

There are a couple of other factors at work here also. Many in the investment class are worried about tax hikes coming next year. Combine that with concerns about taxes on dividends nearly tripling and a spike in capital gains taxes and some investors are cashing out now before the Obama regime's grab of more money commences. Throw in further uncertainty about the impact of Obamacare on business and further regulatory burdens, and a growing number of investors are cashing in before 2012 ends. Clearly nervousness is rising meaning that the Fed is not only now fighting the deflationary forces arising from excessive debt levels but it is also fighting the results from the recent election.

At this point, based on the charts, it looks to me like some market participants are bracing for another fall back into recession in the US. Look at the chart of the Ten Year Treasury Note Yield. It is basically flatlining.


  1. Dan: Great, great post. Thank you!
    Interesting to not that the first Fed intervention dropped rates 80 bps, the next one was 60bps and the third was 40bps. Looks to me like the next move will take the 10-year down to 1.20% or so.

    1. Turd;

      Thanks buddy for the post. Always good to hear from my pal over at TF Metals.

      I see the Fed being forced to try to stem the business killing effects coming from the obama administration by ramping up the QE efforts to ward off the inevitable. there is simply too much debt in the system. It can be masked for a time and ignored but it is not going to go away and is only going to increase. The US is spending itself to ruin.

  2. Dan,

    If one wanted to trade the VIX, is there a good way to do this? What is the ticker symbol for an idex that follows this?


  3. Every week, another astounding feat is pulled off by Bernanke and his minions.

    Today's slap down in the PM's, combined with an even higher surge into Treasury bonds, all happening while the SPY is over 1400 is a true feat never ever recorded in history.

    XRT and XLY are within $2 of world record highs amidst staggering unemployment and food stamp usage.

    The CRB Index has now been in a bear market for 9 months, with unleaded gasoline prices making new lows every day for weeks. Just pullup Gasbuddy.com for Austin, TX and you will see what I mean.

    Every major state is on the brink of bankruptcy yet muni-bond ETF's are trading near record highs, with the leveraged ones on insane runs already.

    And as for the Treasury market, another trillion in deficits and another debt downgrade won't even matter, because the Fed is at the ready 24/7 to buy all new issues come Hell or High Water.

    I mean, watching today's financial markets is a true study of history in the making.

  4. Dan,

    Looks like there is more than one Mark. I still wanted your response to this, in regard to your "wack-a-mole" theory.

    What about the flash crash on Tuesday PM. Gold and silver flashed lower and instantly recovered. Was that a signal Dan? Is there any connection to BM being placed in CHARGE OF Regulatory Affairs at JPM last week?

    "Blythe Masters to Lead Regulatory Affairs at JPMorgan Chase

    November 29, 2012 By The Doc 43 Comments

    The face of JP Morgan’s alleged silver manipulation has reportedly been chosen to lead JPM’s regulatory affairs office in addition to her role as head of commodities. Apparently Mr. Dimon feels the need to ensure Bart, Gary, and the rest of the CFTC toe the line regarding the nearly 5 year old investigation of silver manipulation.

    Blythe Masters, Head of Global Commodities at JPMorgan Chase, has been given the additional assignment to lead regulatory affairs for the corporate and investment bank."


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