UBS: EQUITY MARKET RISKS APPROACHING EXTREMES
UBS called the bottom of the recent downturn to the exact day on February 9th (see here). They’ve been bullish since then, but are now warning of extreme risks in the market. According to their Risk Appetite Indicator, risks are surging as the market advances and investors turn increasingly complacent:
“Our Risk Appetite Indicator edged higher last week, moving up to 1.21 from 1.15. After briefly dipping into negative territory in early February, the indicator has risen 5 out of the last 6 weeks (with one week unchanged) and is nearing the +1.30 level, which we define as extreme risk seeking territory. Last week, each component ticked marginally higher as the MSCI AC World index was up 1.9%.”
Their index has proven quite timely. Based on UBS data going back over a decade the market’s have returned about 1% over the following 12 months after a “sell signal”. 12 month returns following a “buy” signal were over 6%.
“When the index is greater than +1.3 standard deviations from its mean, the index is showing investors are very willing to take risk, which is when historically the index has given its best “sell signal”. Equity returns 12 months on from such high risk appetite are typically very poor, just 1% on average.”
Source: UBS
the short bet of the year: they’re gonna give me 50:1 tiger doesn’t make the cut at the first tournament he plays after his wife leaves him.
having been there more than once, i fear the SEC is gonna come after me for insider trading……if they can find me.
this market’s wife has her plane ticket and the best divorce lawyer already on retainer.
reality comes to everything sooner or later.
who gives those kind of odds?
TPC – why now? It looks like the extreme appepetiate has been running pretty high for some time now (since june last year. So why now???
Meanwhile isn’t this at odds with your wall of worry indicator?
How to square the two – thats the question!
The Wall of Worry was taken from several long-term sentiment indicators. Indicators like the AAII sentiment survey or this UBS indicator appear to be much more short-term.
I’ve been picking up some longer dated index puts lately. This extreme risk appetite has driven premiums very low. You can get strikes 5% out of the money for chump change. I’m “buying the dips” too…
But hey, if they like it at 11,000/1200, they’ll LOVE it at 9,000/900!!!
I think everyone is buying the dips. This market is like a robot.
haha, defies all logic.
I’m buying the dips on my put premiums is what I meant.
In a round about way, the guys at UBS are basically saying is that the market for this stage of the recession should be at or around 10000/1050 … give or take.
Anything 10% above without substantive information of economic improvements triggers their ‘Risk Appetite Indicator’ (also known as the Stupidity Alarm TM).
Come on people, there’s just not enough complacency yet, especially when these articles remain prevalent I’m sorry to say.
I’m with ya in many ways but again, the idea of cheap premiums is that it’s not likely to happen. I’ve been suckered there myself with spu’s, sc’s and fncl’ls (although they’re still rich).
Well, let’s be clear – when I say that premiums are cheap, I’m referring to only one aspect of the option pricing – Volatility. I feel volatility is way to low (VIX/VXN), which implies a lack of risk aversion where I believe there is great risk.
You have to be careful trading options obviously (specifically in sizing your position, choosing your expo month, and choosing your strike). However, I’m not planing on exercising these options – Im actually just trading the premium. The beauty of a low vol creating a low premium on puts is that when the market turns in your favor, you have a double acceleration in the premium – both via the increase in vol and the increase in intrinsic value supercharges your gains.
Yes its contrarian, but considering the ignorance of the market conditions out there, I like this play at this time. 11k DOW/1200 S&P are resistance points I don’t plan on seeing broken but my options don’t even have to go In the Money for me to make a boatload.
Good explanation and as i said, I’m with ya. Options are good leverage tools can and should be sued wisely. Grab the profits when you can. For example, I got greedy last February when we had the 8% correction. Went long the SPX Jun 90 puts and doubled them. Did not sell and then lost. It’s a mind game that takes good discipline and if anyone says they’ve never made this mistake they’re lying. Good luck bro!
Lol, got that right. I was burned so many times that I learned the best method for me to trade these was to analyze my trading. It turns out I’m almost always profitable within the first 2 hrs of making the trade. So, I size my max loss, put on the position and wait. Once I am profitable to both lock in a profit and get a freebie, I take the rest off. It’s not nearly as much fun, but it does make consistent money at fairly low risk.
This time though, I decided to keep on a bit more than usual – ie. I can definitely lose some on this trade – but I have a 10% cutoff for any single trade.
Cool. I just think you have to remain long dated ’cause this could take a while. Perhaps being down double digit percentages has to happen due to timing issue but if you’re brave enough to average down, it’ll be alright.
I’m sure you thought of 2x and 3x’ers. I’ve found that treating teh tracking error like option premium reduction helps cope with being wrong on those. However, the good thing is there’s no expiration. These SDS, SKF’s and TWM’s etc…could and should double or even triple this year still.
Anyway, happy trading and own PM’s.
May be there is a missing factor in the equation – the rate of money printing.
YOU are now seeing the TOP of the market for the year as we speak…
next week we see massive institutional selling into earnings as TPC has suggested
In Banking, not saying you are wrong. But strategically, buying the dips in out of the money options is usually a horrible mistake.
I don’t think you can make that generalization without knowing how far out of the money and how long a time horizon. The “dips” in premiums are not theta dips on long time horizons. Moreover, total loss is instantaneously calculated. So long as you stick to your rules – I don’t see how this is a “horrible mistake”.
There’s lots of inefficiency in the options market and so long as you’re only doing buy side trades, all transactions are settled in cash (no margin allowed).
I’m not going into length about how I make the trades I do, but I will say that I generally won’t put on a trade until I see a number of indicators aligning that signal a profitable opportunity.