Skew index warns of trouble ahead

Despite the hazardous political backdrop, global markets are “remarkably calm”, says John Dizard in the FT. Yet many “large, conservative, real-money investors” are seeking out cheap ways of hedging themselves against a market crash.

The Skew index captures the level of unease in markets: it measures the difference between the cost of buying a put option on the S&P 500 – which offers protection against a sharp fall – and a call option, which does the opposite. It ranges between 100 and 150, and it is now at 140, among the higher readings since the index’s inception in 2011. In short, investors in futures are happy “to pay over the mathematical odds for protection against a market decline”. 

The Skew is not a reliable market timing tool, but it’s interesting to note that many investors are not as complacent as stockmarkets, which are hitting new highs, would have you believe. But beware dabbling in speculation, warns Dizard. Synthetic products such as those based on the Skew are “created by commodities dealers and traders, and tend to be ways for the professionals, not you, to make money”.

Merryn

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