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Equity Risk Monitors — October 24, 2023

Equity Risk Monitor Highlights | Week Ended October 20, 2023

  • Equity Indices Down Globally
  • Short Horizon Forecasts Exceed Medium Horizon in Japan and Europe, Not Yet In US
  • Short Horizon Forecasts and the VIX

Equity Indices Down Globally

October has been a volatile month globally, with indices down in all the markets we model since the end of September.  This overall downward direction has been accompanied by significant temporary reversals, indicating a great deal of uncertainty with respect to where we go from here:

The following chart is not published in the Equity Risk Monitors, but is available upon request:

The macroeconomic and geopolitical environments go a long way in explaining this resurgence of volatility, with long rates hitting multi-decade highs and the potential for dangerous expansion and escalation of the Israel-Hamas war. 

Short Horizon Forecasts Exceed Medium Horizon in Japan and Europe, Not Yet In US

The risk models in these markets have also shown increasing forecasts, although some models exhibit greater alarm than others.  For example, note the contrast in the risk forecasts between Europe, Japan and the United States:

See Chart 7 in the US, Europe and Japan Equity Risk Monitors, 20 Oct 2023:

In Japan and Europe, the Short Horizon models have jumped well above the medium-horizon models.  This indicates that the trend is towards higher risk forecasts in those markets.  This has not occurred in the US.  It so happens that the US models are doing a decent job of tracking 20-day realized volatility, but they are not picking up on whatever is driving the market-implied price of volatility tracked by the VIX index:

Short Horizon Forecasts and the VIX

The following chart is not published with the Equity Risk Monitors but is available upon request:

The VIX is not a risk model dependent on past returns to forecast the future; thus its indication of expected future volatility is much more volatile than even our fastest risk models.  However, it is calibrated to roughly the same time horizon as the Short-Horizon models (1-2 months) and therefore should track somewhat closely.  Looking at the relationship of Axioma short-horizon forecasts and the VIX level YTD allows some perspective:

The following chart is not published with the Equity Risk Monitors but is available upon request:

The spread that is evident since mid-September could indicate that reversion in the VIX is imminent, or that something beyond fundamental factors is driving demand for index options as the year comes to a close. Of course it might also suggest that we will start to see an increase in forecast risk for the US in the near future.

While VIX can be very useful as a measure of the market’s near-term sentiment about volatility, we believe that the nature of our risk models, their proven track records, their ability to help users understand the sources of risk and perhaps most importantly their ability to define active risk, make them more than just a complement to VIX.