At Pinnacle we tend to view volatility extremes as a contra-indicator for financial markets, with very low volatility associated with complacency and very high volatility associated with fear. Reaching such extremes can present very compelling investment opportunities at times. Currently, there is a big divergence in volatility measures between the stock and bond markets.
We are watching complacency build in equity markets as a measure of implied equity volatility (the VIX Index) has fallen near its low for the year, put/call options ratios are very low, and several surveys of investor bullishness or bearishness have grown exceedingly optimistic again.
The antithesis of the serene reading from the VIX can be seen in a measure of bond market volatility known as the MOVE Index. The MOVE Index is a measure of implied volatility in the Treasury market, and it has spiked to a new high for the year. This number also echoes recent bond surveys that imply that the short-term sentiment for bonds has turned in the opposite direction of stocks due to the wicked selloff in bonds, to deeply pessimistic levels.
Our sense is that the markets are setting up for a counter-trend rally that may feature a stock to bond rotation. The catch is that the counter-trend rally is not likely to end the bull market in stocks, nor is it likely to end the normalization of yields in the bond market. We are wrestling with what a counter-trend move might mean for portfolio allocations at this time.