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Insights
July 2020 Market Perspective
Thursday, August 6, 2020
Despite the huge contraction in economic activity and corporate
profitability during the second quarter of 2020, the U.S. equity market mounted
an impressive rally, ending July near all-time highs. From the market low on
March 23 through July 31, the S&P 500® Index returned 47.16%. As
the market staged its comeback, volatility collapsed from the extreme levels of
the first quarter. The S&P 500® Index had an annualized standard
deviation of 13.28% for the month of July. This below-average monthly reading
was also more than 85% lower than the highest-ever monthly level registered in
March - from highest-ever to below-average in the span of four months.
Implied volatility, as measured by the Cboe®
Volatility Index (the VIX®), also ended July at a much lower level than its
first quarter high, but its decline has not been quite as breathtaking. The VIX®
closing value of 24.46 on July 31 was only 70% lower than its highest reading
in March.
Even though realized volatility and implied volatility had similar
trajectories during the market advance, the two statistics ended up in very
different places. While realized volatility fell to a below-average reading, the
VIX® ended July more than 25% above its long-term average. In fact, for
the month of July, average implied volatility was double realized volatility
and the two statistics had the largest positive monthly differential in
history. The 13.56 percentage point spread between implied and realized
volatility was also the first double-digit spread since January 2012.
*VIX® data availability began on January 1, 1990. Source: Bloomberg, L.P.
While implied volatility has come down significantly from the extreme levels witnessed in the
first quarter of 2020, it remains well-above its historical average and
well-above recent realized volatility, both of which are advantageous for strategies
that use index options to enhance risk-adjusted return while lowering the risk
of equity market exposure. Above-average implied volatility levels that are
also well above realized volatility create strong potential for attractive
risk-adjusted returns from option writing strategies.
Higher implied volatility relative to realized volatility is a
persistent, but not constant, characteristic of the markets for index options
and equities. The recent wider-than-usual spread may be an indication that the collapse
in realized volatility may be coincident with increased speculation on future
changes in volatility. Some speculators are betting that the current
environment is likely to continue and are selling volatility at its current
level in hopes that it drops further. Other speculators are betting that the volatility
drivers present earlier this year will return and cause a volatility spike.
Gateway’s view is that such speculation is just as risky, if not riskier, than
speculating on the direction of the equity market.
Gateway’s use of index options to manage equity risk differs from
speculation on the future direction of volatility in fundamental ways. While a
pure speculator will generate an absolute gain or absolute loss depending on
the change in volatility, Gateway’s strategies use index options to
consistently reduce the risk of equity market exposure. Higher levels of
volatility can lead to higher option premiums and increased cash flow from
option selling, but the gain or loss of the strategy as a whole is more dependent
on the direction of the equity market than whether volatility is rising or
falling. Gateway’s strategies are designed to be a true hedge to the equity
market—with the potential to consistently benefit from equity market advances
and consistently mitigate the effect of equity market declines. This market
agnostic, risk-first approach has generated a low-volatility equity profile
that has served our investors well for more than 40 years.
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U.S. Market Perspective
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October 2020 Market Perspective
September 2020 Market Perspective
August 2020 Market Perspective
July 2020 Market Perspective
June 2020 Market Perspective
May 2020 Market Perspective
April 2020 Market Perspective
March 2020 Market Perspective
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January 2020 Market Perspective
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Q3 2019 Market Perspective
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Market Review
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Index/RA Market Review – Q3 2021
Active PutWrite Market Review – Q3 2021
Active PutWrite Market Review – Q2 2021
Active Overwrite Market Review – Q2 2021
Index/RA Market Review – Q2 2021
Active Overwrite Market Review – Q1 2021
Active PutWrite Market Review – Q1 2021
Index/RA Market Review – Q1 2021
Quick Takes
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An "All Clear" Signal?
An Update on the Volatility Risk Premium (VRP)
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2019 Flagship (Index/RA) Commentary - Q3
2019 Flagship (Index/RA) Commentary - Q2
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Active Overwrite Commentary
2021 Active Overwrite Commentary - Q3
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2020 Active Overwrite Commentary - Q4
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Active PutWrite Commentary
2021 Active PutWrite Commentary - Q3
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2020 Active PutWrite Commentary - Q2
2020 Active PutWrite Commentary - Q1
2019 Active PutWrite Commentary - Q4
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2019 Active PutWrite Commentary - Q1
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