As we have mentioned recently, the severe market volatility started last Friday. It increased dramatically Monday, thereby making trading on Tuesday extremely difficult. Wednesday’s trade was still “whippy,” as it is called by many active traders, but far less so than the prior few days.
Have you ever thought of how the market may change when volatility radically increases? Do to the surprise factor, where traders realize that markets can actually go lower, trades are not held as long. Traders will consistently take quick profits, which makes the sharp swings in the market look like a school of mackerel changing directions while feeding.
And what may help this process? Look at how much the volume size in the order book decreased. In the ES futures, the volume size at each price can drop from a “normal” size of 1,000 or more, to as low as a single digit. This lack of “size” in the order book means that the change in direction can be extreme, surprising, and therefore “whippy” because there are so few trades to slow it down in the queue. Think of the school of fish changing directions!
The crash of the short volatility index, XIV, has been discussed a great deal in the financial media; but what caused the increased vol that crushed the short-vol trade? Many people believe that the rally in the long Treasury market yield is the answer. What’s more, many people were warning of market upheaval if the 10-year traded above 2.63%.
When the yield traded north of 2.80% last Friday, the steady rise in interest rates just could be ignored any longer.
Expect another round of wild volatility when the 10-YR trades above 3.00%.