U.S. and European equities are the only market sectors to express some fear of a rate hike since the November 4, 2015, congressional testimony by Fed Chairwoman Janet Yellen, who indicated that a December increase in the federal funds’ target rate was a real possibility.
From November 4 through the close on November 12, the VIX Index increased by18% and VSTOXX by 20%, in spite of the European Central Bank’s (ECB’s) commitment to extend its quantitative easing program. On the other hand, NKVIX, the analogous measure for Japanese equities, declined by 12% over the same period. Treasury volatility (TYVIX) perked up for about a day, but was down by 8% by Thursday’s close. Currency volatilities were mostly lower.
Figure 1. Mapping the Path of Volatility and U.S. Rates
The behavior of TYVIX is not completely unexpected. The last time that the Federal Reserve initiated a cycle of rate increases, in June 2004, TYVIX decreased throughout the tightening cycle because the 10-Year Treasury yield proved relatively insensitive to changes in the short rate. At the time, then-Federal Reserve Chairman Alan Greenspan called the delinking of the two rates a “conundrum.”
Term Structure of VIX-Like Futures
As was the case last week, the term structure of EUVIX is in backwardation, perhaps because it is above its median value since 2003, but then so is the VIX Index!. The term structure of TYVIX futures is nearly flat and the rest of the other VIX-like volatilities are in contango, the norm for volatility.