Macro Volatility and the NIFTY 50

This post is a continuation of our exploration of trying to use macro market indicators to time the NIFTY 50. See World Markets and the NIFTY 50 and India VIX vs. SPX VIX.

Perhaps the problem with using price moving averages was that the major moves were already done before we could short the NIFTY. What if we used volatility instead? Here is how the median of 10-day volatility of major world indices looks like:

macro.volatility

What if we went long only when volatility was below the median and went short otherwise?

macro.trade.a

Looks like the strategy works only in avoiding the 2008 crash. Using observed volatility to time trades doesn’t work. One more to the reject pile.

Opening Bell 10.02.2016

Your world at 9am

world.2016-02-10

Equities

Major
DAX(DEU) -1.11%
CAC(FRA) -1.69%
UKX(GBR) -1.00%
NKY(JPN) -2.40%
SPX(USA) -0.07%
MINTs
JCI(IDN) -0.25%
INMEX(MEX) -0.97%
NGSEINDX(NGA) +0.02%
XU030(TUR) -0.76%
BRICS
IBOV(BRA) -0.56%
SHCOMP(CHN) -0.63%
NIFTY(IND) -1.21%
INDEXCF(RUS) -1.20%
TOP40(ZAF) -2.32%

Commodities

Energy
Ethanol +0.00%
Natural Gas +0.10%
Brent Crude Oil +2.31%
Heating Oil +1.47%
RBOB Gasoline +1.16%
WTI Crude Oil +1.90%
Metals
Platinum -0.67%
Gold 100oz -0.55%
Copper +0.00%
Palladium +0.18%
Silver 5000oz +0.00%

Currencies

USDEUR:-0.02% USDJPY:-0.42%

MINTs
USDIDR(IDN) -0.86%
USDMXN(MEX) +0.04%
USDNGN(NGA) +0.00%
USDTRY(TUR) -0.01%
BRICS
USDBRL(BRA) +0.35%
USDCNY(CHN) +0.07%
USDINR(IND) -0.06%
USDRUB(RUS) -0.52%
USDZAR(ZAF) -0.04%
Agricultural
Cattle +0.00%
Sugar #11 +0.00%
Cocoa +0.00%
Coffee (Arabica) +0.00%
Corn +0.00%
Lean Hogs +0.00%
Coffee (Robusta) +0.00%
Cotton -0.43%
Orange Juice +0.00%
Soybeans -0.09%
Wheat -0.05%
Feeder Cattle +0.00%
Lumber +0.00%
Soybean Meal -0.15%
White Sugar +0.00%

Credit Indices

Index Change
Markit CDX EM -0.45%
Markit CDX NA HY -0.88%
Markit CDX NA IG +5.72%
Markit iTraxx Asia ex-Japan IG +0.00%
Markit iTraxx Australia +2.97%
Markit iTraxx Europe +11.58%
Markit iTraxx Europe Crossover +37.32%
Markit iTraxx Japan +2.57%
Markit MCDX (Municipal CDS) +3.34%
Out of 42 world ETFs listed in NYSE that we track, only 9 are trading above their 10-day SMA and 10 are trading above their 50-day SMA.

Must reads

Just six weeks into 2016, Goldman Sachs has abandoned five of six recommended top trades for the year. (Bloomberg)

RBI panel recommends the introduction of both over-the-counter (OTC) and exchange-traded options. (LiveMint, #rates)

“A month ago the focus was China, then oil, then the prospect of US recession, now it is European financial companies.”(FT)

Europe: from “butter mountains” and “wine lakes” to “oil caves?” (WB)

Why, in the entire history of human life, did awesomeness become the great virtue of our age? (Aeon)

Good luck!

Options Daily 10.02.2016

NIFTY Summary:

  1. Feb 7400 calls added 12,31,875 contracts.
  2. Feb 7800 calls shed 7,87,500.
  3. Feb 7100 puts added 17,00,475.
  4. Feb 7400 puts shed 6,39,225.

Our trend model indicates a SHORT on the NIFTY and SHORT on the BANKNIFTY.

FEB NIFTY OI

FEB NIFTY OI chart

FEB BANKNIFTY OI

FEB BANKNIFTY OI chart

FEB NIFTY Volatility

FEB NIFTY Volatility chart

FEB BANKNIFTY Volatility

FEB BANKNIFTY Volatility chart
Dotted lines indicated actual underlying volatility. Solid lines are IVs.

VIX Density Plot

VIX kernel density plot

5-day forecast based on ARMA(3,3)+GARCH(1,1) model:

VIX 21.46 21.34 21.30 21.21 21.15
σ 1.20 1.17 1.15 1.14 1.12

World Markets and the NIFTY 50

global.etf.performance.2015-12-30.2016-02-08

Global markets have sold off in tandem so far this year. The question on everyone’s mind is if markets are correlated during sell-offs, then is it possible to construct a “world markets indicator” that will allow traders to short the NIFTY?

Constructing an SMA index

There are about 40 world index ETFs listed in the NYSE that provide a dollar based proxy to world equity markets. Using historical data, one can construct an index that tracks the fraction of these markets that are trading above their simple moving averages (SMAs.) If the index dips below a certain level, it could mean that a macro sell-off is in progress and one could proceed to short the Nifty. We constructed a 5- 10- and 50-day index of global market ETFs:

macro.sma

Using the SMA index to trade

So what if we used the SMA indices to go long and short the NIFTY? What we did below was to go short the NIFTY if the fraction of world markets trading below their SMAs were below their historical medians and long otherwise.

macro.trade

Between 2007 and now, the 5- and 10-day SMAs (black, red) under-perform a buy-and-hold (blue) strategy. However, the 50-day strategy (green) helped short the 2008 crisis and the current sell-off.

But let us zoom into the period between 2011 and 2014:

macro.trade2

This is where macro under-performs buy & hold (negative returns vs. positive.)

Year-wise returns of the different strategies:

Year 5-day SMA 10-day SMA 50-day SMA Buy and Hold
2007
50.58%
7.01%
12.03%
54.77%
2008
-2.51%
65.04%
69.88%
-51.79%
2009
-20.12%
-37.06%
18.47%
75.76%
2010
-4.11%
-23.86%
-19.11%
17.95%
2011
-24.00%
-16.30%
7.68%
-24.62%
2012
14.09%
16.66%
1.22%
27.70%
2013
-19.15%
6.02%
-8.94%
6.76%
2014
1.07%
-1.97%
-1.17%
31.39%
2015
13.56%
-4.39%
25.32%
-4.06%
2016
-4.77%
-4.60%
-6.13%
-7.04%

Conclusion

  • Given the volatile nature of the SMA World Indices, expect to take a fairly large hit on trading costs.
  • The 50-SMA based strategy under-performed buy and hold in 6 out of 9 years.
  • The 50-SMA based strategy under-performed buy and hold in 3 consecutive years – 2012, 2013 and 2014 – making it a hard strategy to be faithful to.

Related: India VIX vs. SPX VIX

Opening Bell 09.02.2016

Your world at 9am

world.2016-02-09

Equities

Major
DAX(DEU) -3.30%
CAC(FRA) -3.20%
UKX(GBR) -2.71%
NKY(JPN) -4.92%
SPX(USA) -1.42%
MINTs
JCI(IDN) -0.61%
INMEX(MEX) -1.47%
NGSEINDX(NGA) +2.02%
XU030(TUR) -3.07%
BRICS
IBOV(BRA) -0.56%
SHCOMP(CHN) -0.63%
NIFTY(IND) -1.36%
INDEXCF(RUS) -2.04%
TOP40(ZAF) -1.02%

Commodities

Energy
Natural Gas -0.65%
Brent Crude Oil +0.70%
WTI Crude Oil +1.25%
Ethanol +0.00%
Heating Oil +0.27%
RBOB Gasoline +0.20%
Metals
Copper -0.22%
Gold 100oz -0.33%
Palladium -0.77%
Platinum +0.11%
Silver 5000oz -0.17%

Currencies

USDEUR:-0.35%
USDJPY:-1.36%

MINTs
USDIDR(IDN) +0.68%
USDMXN(MEX) +0.35%
USDNGN(NGA) +0.28%
USDTRY(TUR) +0.16%
BRICS
USDBRL(BRA) +0.35%
USDCNY(CHN) +0.07%
USDINR(IND) +0.42%
USDRUB(RUS) +0.56%
USDZAR(ZAF) +0.81%
Agricultural
Cattle +0.00%
Lean Hogs +0.00%
Soybean Meal +0.00%
White Sugar +0.00%
Coffee (Robusta) +0.00%
Cotton -0.07%
Lumber +0.00%
Sugar #11 +0.00%
Cocoa +0.00%
Coffee (Arabica) +0.00%
Orange Juice +0.00%
Soybeans +0.03%
Corn -0.14%
Feeder Cattle +0.00%
Wheat +0.11%

Must reads

Non-farm growth at 9.2% – unbelievable! (LiveMint, #economy)

Implementation of flagship schemes – impossible! (FE)

Bangalore real-estate – unsellable! (MC, #real estate)

‘sarkari’ banks – unrevivable! (FP)

‘masala’ bonds – undigestable! (FT, #bonds)

Currency traders – unemployable! (Bloomberg)

Good luck!