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Summary Historically, the holidays provide a brief period of decreasing volatility. This December is filled with unknowns. These unknowns will determine whether stocks finish naughty or nice this year. Hello everyone, I hope you have been doing well. Volatility has turned its head again and is close to backwardation. The purpose of this article is to examine past volatility events and determine the likeliness of a prolonged period of backwardation here. For the basis of discussion, we will use the iPath S&P 500 VIX Short-term Futures ETN (NYSEARCA: VXX ). During the last spike in volatility, VXX performed well and has still not touched the previous lows set in August, see below: (click to enlarge) Historically, this time of year bodes well for inverse volatility products such as the VelocityShares Daily Inverse VIX Short-Term ETN (NASDAQ: XIV ). However, this year, the Santa Clause rally has a Federal Reserve rate hike to deal with. The last spike in volatility came on the back of a decision by the Federal Reserve not to raise interest rates. This was taken as a weak sign for the U.S. economy and investors seemed happy to sell off shares to mark the first real correction since 2011-2012. This spike in volatility created a long period of backwardation, see below: (click to enlarge) Now it appears that solid jobs data has put the Federal Reserve back on track for a December rate hike. Financials rallied for a couple of sessions but have since given back the bulk of their gains after news of new capital rules. Retailers were hit hard after very weak guidance from Macy’s (NYSE: M ). Oil stocks continue to take a beating due to stubbornly high inventories and a very strong dollar. What does all this spell for volatility? A very interesting holiday season. Remember back to the article where we discussed the two types of volatility events. You have economic events that drag out over longer periods of time and you have political events that tend to be very short lived. Volatility markets are now struggling with economics. Even though the market recovered, volatility has remained elevated from the ultra-low numbers we saw in the first half of 2015. Volatility investors are becoming more fearful that the U.S. economy may go from slow growth to none at all. Judging by the jobs numbers, the U.S. economy is doing better than most have expected it to. It is going to be a very competitive holiday season for retailers and a warning from one company does not spell doom for the entire industry. After Macy’s warned on traffic, most online retailers remained unchanged. Wal-Mart (NYSE: WMT ) has even changed course and opted to offer almost all of its Black Friday deals online. Times change and industries must change as well to remain competitive. What to Watch For I have three things on my volatility radar right now. Retail sales and the Santa Claus rally deserve to be recognized this time of year. Typically, a positive start will result in subdued volatility. Will online retailers more than make up for slow foot traffic? I believe the answer is yes. Score one for Santa. The mid-December possible government shutdown. I absolutely hate gridlock in politics and government shutdowns really aren’t the image we want to portray. But, those events were some of the easiest money ever made on volatility trades. Here’s a look at VXX during the last government shutdown: (click to enlarge) Score one for volatility. All eyes will be on the Federal Reserve’s December meeting. To hike or not to hike. I believe over the next month or so, the market will price in a hike in rates only leaving the possibility of disappointment in not getting the rate hike they were expecting. Score two for volatility. Conclusion My scorecard shows a higher chance of volatility than we typically see this time of year. If volatility begins to enter overbought conditions by the beginning of December, I will be looking for a short-term short position in VXX or a small long position in XIV. Keep your eye on the ball and wait for an event to play out before you jump in too soon or chase after something that is already gone. It is important to analyze the situation as it develops. We saw during the last volatility event how trigger-happy investors are right now and we could see more of the same should conditions worsen. This should be in your volatility game plan. Thank you so much for reading and for more information on timing the VIX, volatility ETFs, and related volatility education, please check out my library of articles here on Seeking Alpha . Scalper1 News
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