Policymakers at the People’s Bank of China set the yuan daily reference rate slightly higher today after revealing that total costs related to open market interventions in December exceeded $100 billion. The mounting cost of defending both China’s currency and its equity markets now threatens to undermine confidence of investors spurred by the bank’s massive foreign currency reserves. Separately, state media outlets today reported that China’s State Administration of Foreign Exchange has instructed banks to limit dollar purchases in a further attempt to stem capital outflows. Meanwhile, the wild ride for stocks continued with the Shanghai Composite index vacillating between a nearly 3 percent rise and a 2 percent retreat within 15 minutes of the open.
SNB assets tumble on currency moves. The Swiss National Bank released data today indicating that total losses incurred last year after abandoning a currency band were in excess of $20 billion. Despite the drawdown in currency reserves, the bank intends to pay a dividend and distribute more than $1 billion to the Swiss federal government. After SNB policymakers abandoned its peg, the Swiss franc rose by more than 10 percent against the euro in 2015, causing deflationary pressures.
Aramco mulls IPO. State-owned Saudi Arabian Oil Co., better known as Aramco, the world’s largest corporate oil producer, revealed yesterday that management and government officials are considering an initial public offering. The option of either taking the parent company public or listing subsidiaries are under discussion.
Bank of Japan says increased easing unlikely for now. In a summary of notes from the December policy meeting released today by the Bank of Japan, the door for further intervention was left open with the statement that the central bank’s leaders will act if necessary but that “downside risks to the outlook for economic activity and prices have not increased.” Separately, Japanese Ministry of Health, Labour and Welfare data released this morning showed that wages were flat in November, a negative indicator in a month were total consumer price index less housing climbed.
European Union clears FedEx for TNT buyout. European regulators provided approval today to Memphis, Tennessee–based delivery giant FedEx to complete the proposed acquisition of TNT Express with no requirements to pare assets. The nearly $5 billion transaction was deemed to present no antitrust issues within the EU despite the fact that regulators blocked a similar bid by UPS for the Dutch delivery firm in 2012.
Weaker-than-expected factory data out of Europe. Industrial production data released by the German Ministry of the Economy today revealed a slower pace of activity among manufacturers in November than anticipated by analysts. Total output for the period slid by 0.3 percent versus October’s reading, with a sharp decline in the production of investment goods making the biggest contribution to the fall. Separately, output data for French factories released this morning by the National Institute of Statistics and Economic Studies included a 0.9 percent month-over-month contraction in November, the largest one-month decline since June of last year.
U.S. payrolls beat forecasts. The pace of job creation picked up sharply in December with nonfarm payrolls rising by 292,000, well above consensus economist forecasts while November job creation figures were adjusted up. The headline unemployment index remained unchanged while average wages were slightly weaker than anticipated by analysts. While experts note that the year-over-year gains are distorted by a weak reading at year-end 2014 the pace of job creation appears to justify the Federal Reserves plans to continue with more rate hikes this year. Portfolio Perspective: Assessing the Risk Event — Jim Strugger, MKM Partners
Until yesterday, the U.S. equity market pullback had triggered little listed option volume and only a mild volatility surface distortion. Twelve to 15 million listed contracts were traded the first three days of the year while the S&P 500 index declined 2.6 percent. The CBOE Volatility Index (VIX) had just nudged above the 20-level at close Wednesday, the six-month VIX future/spot inversion was 0.46, five-day SPX realized volatility was 12.5 percent and VVIX sat at 103.06. None of those readings were indicative of significant equity-market stress.
But with the 2.4 percent SPX dive yesterday, options volume jumped to 25 million contracts, VIX spiked toward 26 intraday, the VIX futures curve inversion approached 5 points, SPX five-day realized volatility rose to 17.5 and VVIX closed near a high around 116. Each of those metrics approaches levels from October 2014 when the SPX pulled back 7.4 percent, the most recent event comparable to the current 6.4 percent slide measured from the December 29 high.
We don’t have any tools to precisely gauge the peak magnitude of a volatility event once it has begun. But we do have the precedent of prior cycles to provide a gauge. The average VIX futures curve at distinct peaks and troughs during the low-volatility regime from January 2013 to August 2015 and high-volatility regime from July 2007 to January 2013.
Our expectation going forward is for the futures curve to oscillate in a range similar to this prior high-volatility period. That doesn’t mean the average spot VIX peak of 33.7 will be reached during every shock but that has to be embedded in risk-management considerations.
Jim Strugger is a managing director and derivatives strategist for MKM Partners in Stamford, Connecticut.
