January 13, 2009 / 1:23 AM / 11 years ago

Wall Street's options fear gauge spikes up on economy

CHICAGO (Reuters) - The Chicago Board Options Exchange Volatility Index .VIX, Wall Street’s barometer of investor fear, spiked higher on Monday reflecting the persistent weakness in the financial sector.

Concerns about a dismal fourth-quarter earnings, massive credit losses at Citigroup Inc (C.N), dismal economic data and worries about the overall U.S. economy in the grip of a one- year recession contributed to the general sense of investor anxiety and sent risk perceptions higher.

The so-called VIX rose 7.05 percent to 45.84, its highest closing since December 18.

“People are coming around to the fact that neither corporate America nor the financial system has been mended. Financials once again look weak and implied volatility reflected by the VIX rose as investors reach for options premium to protect their portfolios,” said Andrew Wilkinson, senior market analyst at Interactive Brokers Group in Greenwich, Connecticut.

The VIX, which measures near-term anticipated stock market volatility priced into Standard & Poor's 500 index .SPX options, typically moves up when stocks fall as investors seek portfolio insurance in the form of index options.

The rise in the VIX comes after Friday’s somber December U.S. payrolls report, which showed more than half a million jobs lost and the highest unemployment rate since 1993.

“Any thought that there was a lot of cash that would come into the market at the beginning of the year has now been dissipated,” said Michael McCarty, chief equity and options strategist at broker-dealer Meridian Equity Partners in New York.

“As a result, we are now back to focusing on dismal economic data and the prospects for earnings disappointments on the horizon,” he said.

Looking forward, McCarty noted the potential of another round of fund liquidations that would keep stocks under pressure. Consequently, traders are pricing in greater volatility and greater risk in the market overall.

Actual levels of volatility are also on the rise. The larger moves in the S&P 500 is one reason why the VIX is higher, said Frederic Ruffy, options strategist at website WhatsTrading.com. The index has suffered three significant declines during the past four trading sessions, 20 points on Monday, 19 on Friday and 28 points on Wednesday.

One worrisome factor is that the financial sector is looking particularly weak led by Citigroup, said Joe Kinahan, chief derivatives strategist at online brokerage thinkorswim Group in Chicago.

Citigroup shares tumbled 17 percent as investors fretted about the bank’s expected fourth-quarter loss and future capital. Adding to concerns was news the U.S. bank is nearing a deal to sell a controlling stake in its Smith Barney retail brokerage business to Morgan Stanley.


There was also increased activity in the put options in several bank stocks as some players sought to protect their stock positions or wager on further declines in the sector.

The put action was very aggressive in the U.S.-listed shares of HSBC Holdings Plc (HSBA.L)HBC.N where more than 174,000 puts traded, topping the equity’s average daily volume for all puts and calls of 18,000 contracts, said David Gompert, senior analyst at online brokerage Trade Monster in Chicago.

One investor used a put spread involving the March $50 and $45 strikes and appeared to have rolled a long position in the $50 strike to the lower strike, speculating HSBC shares could go below $45 by March expiration, Gompert added.

Reporting by Doris Frankel and Andre Grenon

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