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Volatility Market Ready for Georgia Runoffs

by Business News
December 26, 2020
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Volatility Market Ready for Georgia Runoffs
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(Bloomberg) – Investors aren’t ready to leave this chaotic year behind. There is one more risky event to worry about: the final races of the 2020 elections that impacted next year.

While options and volatility futures are not as pronounced as the hedge on election day last month, they do signal heightened concern over possible market turmoil arising from the results of the January 5 runoff in Georgia that will determine whether Republicans are in control retained over the Senate.

Prior to the November vote, many viewed a Democratic campaign as one of the most optimistic outcomes for US stocks. However, since then the market has shown that it is comfortable with possible continued shared government control – a backdrop that has historically resulted in strong returns.

“There is no doubt that when you switch from red to blue you have to price in something that is looking less cheap because of markets that like the deadlock and markets that like the status quo,” said Phil Camporeale, CEO of Multi – Asset solutions for JPMorgan asset management.

The focus on the runoff – and the need for hedging to protect against subsequent turbulence – centers on uncertainty about how exactly investors should position themselves ahead of a Joe Biden presidency. He needs the Senate’s democratic scrutiny to implement an agenda that would boost green energy companies at the expense of fossil fuel producers and likely lead to more economic aid packages and infrastructure spending. But it could also help him raise the corporate tax rate and tighten government controls.

“It is impossible to exaggerate the importance of these elections to the size, scope and speed of tax, tax and regulatory policies of 2021,” Cowen analyst Chris Krueger wrote in a December 21st note.

Hedges present

There are potential winners and losers in both scenarios, and it is questionable which would be a better scenario for the entire stock market over the long term. However, traders appear to be hedging against the volatility that could break out in the short term if results in Georgia cause investors to pile into the perceived beneficiaries of the result and drop the perceived losers.

The hedge is also likely to reflect concerns that even small surprises could create turbulence in a stock market that will see the general public continue to invest after a spectacular run. The S&P 500 is up 65% from its March low, with a number of valuation metrics hitting their highest levels in a decade or more.

“The idea that fiscal policy and public purchases could mean more than revenue and revenue – sounds a lot like 2020, doesn’t it?” – is instinctively uncomfortable and supports above-average volatility, ”wrote Julian Emanual, equity strategist at Brokerage BTIG, in a recent note.

Biden Stocks have history and Fed on their side, not much else

The runoff elections in Georgia sparked after no candidates for the state’s two Senate seats received a majority of the votes. Republican David Perdue is running for re-election against Jon Ossoff, while Senator Kelly Loeffler is running against Democrat Raphael Warnock. Polls show close competition between Republican and Democratic competitors, while the PredictIt betting market is a small advantage for Republicans. President Donald Trump’s short-term request for larger payments to Americans as part of a Covid-19 bailout package is also a wild card that can affect the vote.

The proximity of the races has deterred investors from becoming too confident about what to expect at the start of a Biden administration. If Democrats win both races, they will have control of the Senate with the help of a tie for Vice President-elect Kamala Harris. (Two independent senators meet with the Democrats.)

“We consider both elections to be too short to hold,” said Tom Hainlin, strategist at Ascent Private Wealth Group of US bank Wealth Management, adding that “some short-term market volatility is possible after the vote.” when the Democrats take both seats.

Evercore ISI strategists say the Cboe Volatility Index futures curve remains “particularly steep” due to events in Georgia, similar to the November races.

Meanwhile, the increase in month-long puts on the S&P 500, or a measure of the cost of declining options, was at the 92nd percentile of a historical range, according to Nomura Securities. “The focus is on protecting after a long run and against the risk of macro regime change from the upcoming Georgia Senate runoff,” Charlie McElligott, a cross-asset strategist at Nomura, wrote in a recent statement to clients .

Many in the market believe the Republican candidates will keep both seats, said Ryan Detrick, chief marketing strategist at LPL Financial. So surprises could “upset the apple cart”.

Angry things

Research by LPL has shown that a divided convention has historically been good for the stock market – for the past seven decades, the S&P 500 has posted an average annual return of 17.2% when power was split between the two parties. This corresponds to an advance of 10.7% for the leadership of the Democrats and 13.4% for the Republicans at the head of both chambers.

Activity in the treasury options market is also picking up, highlighted by a contrarian bet that came up late Monday. The bet was against the potential of aggressive fiscal stimulus that could fuel the long end of the bond market, and it will pay off if any hike in yields is capped at 10 basis points from current levels for about the next month or so the bet leans on Topic that has gained momentum in Treasury options – that the Georgia sell-off could trigger a strong sell-off in Treasuries.

Treasury Options Market comes to life when Georgia Runoffs are nearby

Of course, many on Wall Street don’t see the Georgia races as too much game changer. A tight Senate vote for Democrats, according to Art Hogan, chief marketing strategist at National Securities Corp., may not necessarily mean putting new guidelines in place immediately, including a revision of tax rates.

“I just don’t think it goes into this idea of ​​’oh my god, higher corporate taxes right now and big changes’. I think it’s much more of a centrist mentality that we could have some gradual changes,” Hogan said on the phone. “Also, the market narrative changed pretty quickly after the elections, saying, ‘Hey, wait, we didn’t get the blue wave, but we have a new president, and that probably goes with a calmer presence in international relations and tariffs and trade and more normalization. “I think the market has got used to this concept.”

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© 2020 Bloomberg L.P.



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This article originally appeared on finance.yahoo.com

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