The stock market has been steady about everything recently. It can only become more volatile from here.
Even though the
S&P 500
is down 1% to just under 4600 from its 2023 peak hit in late July, it’s been pretty calm. The
CBOE Volatility Index
(VIX) is down to just over 14, , a little above the post-covid-era low of about 13, hit earlier this year. The VIX’s high after March 2020 was 38, which it touched again in October 2020. Since then, volatility has trended lower. The volatility index measures expected volatility of stock prices. Lower expected volatility means the market sees a tighter range of potential stock prices, and has a high degree confidence in economic outcomes and corporate profits.
Consistent with that, the S&P 500 is up by a double-digit percentage this year, and investors are now paying 19 times expected earnings per share on the index for the next 12 months, up from just under 17 times at the start of the year. That’s because Wall Street expects earnings growth next year as the economy stabilizes with the Federal Reserve nearing the end of its interest-rate hikes. Plus, the advent of artificial intelligence has spurred higher profit growth for Big Tech.
The confidence the market has in those outcomes can’t get much higher—which means volatility should increase, as any number of risks can enter the fray. The delayed impact of already-high interest rates can keep pressuring economic growth and ultimately earnings. The Fed can keep rates higher for longer than the market expects by not cutting rates. Or if the economy is strong enough, the 10-year Treasury yield can rise as it reflects sturdier demand and inflation in the long term. Higher long-dated bond yields make future profits less valuable, weighing on stock prices.
Should any of these risks emerge, volatility should creep back in. The VIX can’t go much lower, so the market would be forced to reflect the possibility of more downside. Evercore’s survey data show that investors expect the S&P 500 to finish the year anywhere between 3300 and 5300, a wide range of potential outcomes, one that’s usually consistent with a VIX above 30, the bank says. For volatility to actually rise to that level, negative developments must unfold.
It’s hard to say if that will be tomorrow or in a few months, but expect a bumpy ride for the stock market soon, enough.
Write to Jacob Sonenshine at [email protected]
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