Monday, March 09, 2020

An Extreme Level Of Equity Market Fear

Can fear measures get to a level more extreme than today? They did during the great financial crisis (GFC), but we do not think the current environment is like the 2008/2009 market period. Near the equity market open this morning trading was halted for 15 minutes as the equity market circuit breaker was triggered with a 7% market decline. Then investors had to contend with a near 25% drop in oil prices due to Saudi Arabia and Russia disagreeing on oil production levels. For consumers though, lower oil prices should translate to lower gas prices at the pump, a bit of a silver lining.

With this said the equity put/call (P/C) ratio ended above 1.0 to close at 1.12 today. As noted in several earlier posts, the equity P/C ratio tends to measure the sentiment of the individual investor by dividing put volume by call volume. At the extremes, this particular measure is a contrarian one; hence, P/C ratios above 1.0 signal overly bearish sentiment from individual investors as they seek equity market downside protection by purchasing put options. Again, as a contrarian measure, individual investors tend to buy this protection at or near market bottoms.

The CNN Business Fear & Greed Index is nearing its zero limit and closed at 3 today, an extreme fear level. I like to highlight this measure as it incorporates a number of sentiment measures in one overall reading.

The VIX Index is incorporated in the Fear & Greed Index and is an implied volatility index that measures the market’s expectation of 30-day S&P 500® volatility implicit in the prices of near-term S&P 500 options. With the VIX, and the reason it has been called the “investor fear gauge,” it historically hits its highest levels during times of financial turmoil and investor fear. As markets recover and investor fear subsides the VIX level tends to drop. The VIX closed at 54.46 today and is at its highest level other than the level reached during the peak of the GFC.

And finally, the number of new lows that exceed new highs on U.S. markets is beginning to reach levels indicative of an oversold market. The below chart shows the reading using a cumulative five day period. Not shown is the one day change which is at its lowest level other than during the GFC. 

So what does this all mean? In short the equity market is oversold. The uncertainty surrounds the unknown impact on the economy, in terms of severity and duration, that is caused by businesses and organizations limiting activity due to the virus outbreak. Given the extent to which some market sectors have declined though, investment opportunities are beginning to unfold.

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