Bracing for “Extreme Moves”

  • Here it comes: The calm before the next market storm
  • If September was volatile, it’s just a warm-up for what’s next
  • Another “asymmetric” Rickards trade: Little downside, big upside
  • The nightmare of a home you bought outright, but don’t really own
  • Reader concurs with Rickards… another scorns Russia… a third wonders what happened to Cindy Sheehan… and more!

After a September scare, a calm runs through the markets again. An eerie calm. A calm that can’t last.
The Dow tumbled 200 points yesterday, setting off a minor wave of volatility as measured by the CBOE Volatility Index — the VIX. But it’s still not much in the scheme of last year – or, for that matter, a month ago…

“The VIX trades roughly in the range of 0–100,” explains Jim Rickards, “although, as a practical matter, it never reaches either extreme.
“A volatility index level of 80 would be associated with something like the Panic of 2008. An index level of 10 would be associated with an unusually calm period of smooth sailing in financial markets. Most of the time, the index trades between those levels.
“When you trade volatility,” Jim goes on, “you are not betting on the direction of markets — you are betting on whether or not extreme moves are in store.
“Those extreme moves could be up or down for a variety of market measures. When you have a ‘long’ position in volatility, you don’t care if a certain market goes up or down, you just care that markets are jumpy and moving in some unexpected or extreme way.
“When markets are already nervous, the price of volatility (reflected in the index level) skyrockets. The way to profit is to buy volatility when it’s cheap and then reap rewards when volatility suddenly skyrockets due to the occurrence of a market or political shock.”
Which is what the market is teeing up right now: Jim calls it “one of the most compelling investment opportunities we’ve ever come across.”
The VIX sits at low levels “in a world waiting to explode with volatility due to unstable currency exchange rates, bank liquidity crises, geopolitical uncertainty and a wild U.S. election cycle.
“One or more of these potential sources of instability are ready to pop up on the markets like a tightly jammed jack-in-the-box when someone unlocks the lid. The key to profits is to understand how to use volatility as a trading strategy. If you act now, you could reap huge rewards in a matter of weeks.”
With that in mind, let’s examine the chart above in a little more depth.
Yesterday’s bump up in volatility has stretched into today, and the VIX rests near 16. That’s still 11% lower than the most recent peak a month ago.
“That mid-September peak,” Jim reminds us, “was associated with market uncertainty involving Deutsche Bank liquidity problems; the Clinton health scare of Sept. 11; uncertainty in the run-up to the Fed meeting on Sept. 21; and a Trump surge prior to the first presidential debate, on Sept. 26.”
But even that spike last month is child’s play compared with other episodes in recent market history, Jim says…

  • “The volatility index hit 79 on Oct. 24, 2008, at the height of the panic of 2008 and in the aftermath of the mortgage market collapse, Lehman bankruptcy, AIG bailout and TARP legislation
  • “The volatility index hit 41 on May 7, 2010, and spiked again to 43 on Sept. 20, 2011. Both spikes were in response to the ongoing European sovereign debt crisis that began in early 2010 (following the default of Dubai World in November 2009) and continued in stages (through the last Greek rescue package in 2015)
  • “The volatility index surged to 28 on Aug. 21, 2015, in the wake of the shock Chinese currency devaluation on Aug. 10 and subsequent plunge in U.S. stock prices, which resulted in an 11% correction. That sell-off was only fully alleviated when the Fed postponed its hoped-for September 2015 ‘liftoff’ in interest rates
  • “Finally, the volatility index peaked at 25 on June 24, 2016, in the immediate aftermath of the ‘Brexit’ vote by the U.K. to leave the European Union on June 23. This volatility spike was the last one prior to the recent mid-September spike associated with Deutsche Bank and the Fed meeting.”

Now think for a moment: How likely is it the VIX won’t spike to last June’s levels before the end of the year?
Consider all the turmoil of recent weeks that we’ve chronicled here in The 5: The “flash crash” in the British pound last Friday. The looming threat to the financial system posed by Deutsche Bank. The election campaign, likely to deliver a few more surprises even if David Stockman is right and Hillary Clinton has it sewn up. And the threat of a new cold war between the United States and Russia turning hot.
The setup in the VIX right now is an “asymmetric” trade — Jim’s favorite kind. “VIX is unlikely to go much lower, because it is already at an unusually low level relative to its longer-term behavior. Conversely, the VIX could easily spike based on one or more new shocks, or shocks from already known problems like Deutsche Bank that are dormant but could re-emerge at any moment.
“In summary, the odds of losing money on a properly constructed volatility trade are low, and the odds of making huge gains are high.”
Jim’s Currency Wars Alert readers were clued in to just such a trade yesterday. It has a three-month profit potential as high as 136%. And it’s not too late to act. Click here and learn how you can take advantage.
Steady as she goes in the markets as the day wears on: The major U.S. stock indexes are flat, the Dow at 18,145.
The 10-year Treasury yield is up to 1.8%. Gold is still holding the line on the $1,250 level. Crude is about to slip below $50.
To some extent, traders are marking time until the release of minutes from the Federal Reserve’s September meeting, scheduled for later today. We’ll be shocked if they do anything other than signal no interest rate increase next month but a high likelihood of one in December.
Elsewhere, the Street chatter is about Samsung and its amazing exploding phones. Today the firm slashed its quarterly profit forecast by one-third.
“How many people are living in a home that they don’t own?” asks Danny Shedd in a YouTube video he made.
In the wake of the post-2008 mortgage meltdown, we chronicled the fallout of the “robosigning” scandal — in which mortgage lenders were so eager to foreclose on properties they never actually looked at the documents. As a result, the title on millions of properties became clouded. (No, no one went to prison.)
The problem hasn’t gone away. Mr. Shedd, a combat veteran with tours of both Iraq and Afghanistan, bought a foreclosure property in Oklahoma last year for cash. The neighbors’ cows had a habit of intruding, so before building a fence, he hired a surveyor.
The surveyor discovered Shedd didn’t own his home at all; the deed said he instead owned 10 wooded acres nearby. Worse, the neighbors now claim the home as their own, the title company is saying “not our problem,” and Fannie Mae — which sold him the house — offered a settlement that did nothing to resolve the claims of the neighbors.
“It’s impossible to determine how many other residential properties have significant defects like this,” writes David Dayen at VICE — “but it would be a mistake to assume Shedd is the last homebuyer who’s going to experience this kind of disaster.”
Ultimate irony: The problem might’ve turned up sooner were it not for Mr. Shedd’s thrift. See, he saved up and bought the house for cash. “If this were financed,” Tara Twomey of the National Consumer Law Center tells VICE, “the bank would have done a minimal survey to draw the lot lines. The fact that he paid in cash meant that he didn’t have a second person doing due diligence.”
“I have great confidence in the analysis and insight into our economic system that Jim Rickards regularly supplies us with,” begins today’s mailbag.
“Unfortunately, so do the string pullers who insist on trying to make his predictions go south, even though the best they can do is to temporarily postpone what is clearly inevitable. One thing I am certain of is that there will be a Fed rate increase in December, followed by the inevitable collapse — all quite deliberate. Our economy has no real momentum, and they all know it.
“The two rapid rate increases in 2007 did their job, wrecking the savings and retirements of working people, but the elites seem to have come out of it very well, as did the banks, auto companies, et al. Our system is supposed to punish bad business by putting them out of business.
“Nothing very bad would have happened to us down here at the street level (working, that is) if there had been no stimulus packages at all. GM would have expired, as they should; Chrysler hasn’t been an American company since 1995; and Ford would have gotten along fine without ‘Cash for Clunkers’ and interest-free government loans. Better auto companies would have taken up the slack. None of us had any Wall Street bank stocks anyway.
“A new collapse in 2017 will provide the excuse for massive spending for ‘stimulus’ programs that will have to be funded by big QEs and possible ‘IMF to the rescue’ desperation measures. Our politicians have discovered that catastrophes at the beginning of a new regime are forgotten by the next election, and throwing open the national treasury immediately after a new administration takes office allows all the contributors to get their ROI for their support in the shortest possible time.
“Most importantly, it will be the Russians who cause the meltdown, according to the press. I could write the story now, if they want it. And that means more punishment for Putin and the Russians, more solidification of the EU behind NATO. Meanwhile, the Snowden documents will all be discredited, because the press will have turned the whole leak scandal into a secret Russian attack on our electoral process.
“Stockman is right, too. The election is over. The press won yet again. They managed to make it about political correctness, instead of the many substantive issues the voters don’t want to confront at any cost. And what a coincidence. Days before a debate, just when those issues might have been brought out. Well, better to be led badly than to have to make hard decisions and lead ourselves. It does seem like a shame that this freak show won’t be run by a reality show host after all.”
“Shame on you for publishing such a rant of crap from Stockman,” says a reader after Monday’s episode.
“He’s entitled to his opinions, but I expect objective facts from this publication, not obviously biased rants.”
The 5: Thanks for the highly specific feedback with which we can make a better publication every day.
“You speak of us provoking and goading Russia,” reads an email of the type we knew we’d get after yesterday’s episode.
[No, we speak of the regime in Washington provoking and goading Russia. That’s the trouble with “we” and “us” rhetoric…]
“To be blunt, this is not insight, but fiction. It is Russia that is doing the provoking – invading and stealing part of another country (Ukraine), providing the weapon used to deliberately shoot down a civilian airliner, bombing an aid convoy and quite possibly hospitals, flying dangerously close to our planes and ships. Do you think we should let them do these things unchallenged? Or do you think nonresponse will moderate and improve their behavior? If the first, shame on you. If the second, learn from history.”
The 5: A splendid job you do regurgitating the unsubstantiated claims of U.S. government officials. Bet you believe unemployment is 5% too, eh?
“People as financial human shields, no problem!” writes the fellow who helped us kick off yesterday’s war-with-Russia episode.
“If the U.S. Air Force is so all-fired ready, à la Slim Pickens in Dr. Strangelove, to position their actions under the fake fig leaf of preventing people from being human shields in Aleppo, at least perhaps those selfsame folks in Hillary’s National Socialist Deep State, as well as her crony buddies at the Vampire Squid Goldmun Suchs (sorry, I just couldn’t resist) and JP Morgue, might consider – using the same logic – stopping the use of us poor, unwashed masses as human shields here in flyover country for the inevitable mushroom cloud that will be forming over the derivative and socialist debt bombs of today’s financial Dr. Strangeloves.
“Where is Cindy Sheehan and the ignorant lamestream media when we finally need them?”
The 5: The elite used up Cindy Sheehan and threw her away when she was no longer useful. (That said, she didn’t help the cause of peace by adopting 9/11 trutherism.)
“I felt really betrayed,” she recalled this summer to Slate, describing the Democrats’ sweep of Congress in 2006 — and their continued funding of the Iraq War after they attained control. “But since then, I’ve realized they didn’t betray me. It was my fault for thinking they would do anything else.”
Best regards,
Dave Gonigam
The 5 Min. Forecast
P.S. Publication of David Stockman’s new book, Trumped!: A Nation on the Brink of Ruin… and How to Bring It Back, is set for Friday. The price at Amazon is discounted to $18.
But because you’re an Agora Financial reader, you can get a copy today for only $4.95. Your copy will include a special bonus chapter with specific investment advice shaped by David’s decades of experience in Congress and in the Reagan White House and as an investment banker.
You’ll also get a 30-day trial to David’s daily Contra Corner emails… and instant access to a model portfolio to see you through these coming turbulent times. You can examine all the privileges and benefits of Contra Corner — and get your $4.95 copy of Trumped! — when you review this invitation from David. There’s no long video to watch.

Dave Gonigam

Dave Gonigam

Dave Gonigam has been managing editor of The 5 Min. Forecast since September 2010. Before joining the research and writing team at Agora Financial in 2007, he worked for 20 years as an Emmy award-winning television news producer.

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