In some ways, the volatility spike of February seems like a distant memory, with the VIX doing its best to shrink to the lowest double digit range, if not re-enter the sub-10 level that dominated for the latter part of 2017, closing today's torrid session back under 13. And yet, as discussed recently, traders have become increasingly jittery in recent months, as one month after the next some "accident" manages to send the VIX surging - if only briefly before - it resumes its gentle glidepath on the realization that the overall health of the market appears to remain stable.
Whether one calls this phenomenon "rolling bear markets" as Morgan Stanley does, or simply a reflection of the realization that with global financial conditions significantly tighter than they were last year amid continued rates hikes and liquidity drains by central banks, the chance of a major accident "which breaks the market and there is no rebound" (in Goldman's words), is irrelevant. Adding the nearly flat yield curve, tariffs, high stock and bond valuations and America's soaring double deficits, and the result is, in Jeffrey Gundlach's words "risk, not goldilocks."
Yield curve nearly flat 2/10 + Fed auto-tightening + QT + tariffs + high stock & bond valuations + exploding deficit = Risk, not Goldilocks.
Which may explain why as Goldman's Alessio Rizzi writes, "investors are wondering how vulnerable the current environment is and which will be the catalysts for volatility in the coming months."
To answer this question, Rizzi has updated his global volatility regime heatmap to assess the drivers of various, often uncorrelated vol regimes. The Goldman analyst finds that: "the result is still a healthy picture but with more indicators turning less green/more orange." More ominously, he also echoes Gundlach's skepticism and adds that "the Goldilocks backdrop of 2017 has continued to fade YTD and the average percentile of macro, markets and uncertainty indicators has increased but remains green in aggregate."
One reason for this is the recent decoupling between the US and the ROW:
While the US economic momentum remains solid, growth outside the US has weakened. Global growth measured by our CAI moved from 5.5% in November to 4.3% in June and leading indicators point to further weakness in the near term. Our economists see the recent slowdown more as a convergence to trend level rather than an effect of the trade conflicts.
Meanwhile, one of the weakest links of the market in 2018, credit spreads, have broadly widened since February, as a result of political risk from Italy - which put pressure on sovereign spreads - as well as the M&A related pick up in supply which first drove wider US IG spreads and - as discussed last week - has started to weigh...