Dow down ... up ... down ... up ... down ... up 567 in wild ride
On Wall Street, perhaps the only thing worse than volatility is the fear of volatility.
But that’s precisely where investors find themselves: pondering the unknown.
How far can we go before we hit bottom? That’s the thought on the minds of every professional investor, day-trader and 401(k) retirement account investment holder. After Monday’s 1,175-point drop in the Dow Jones Industrial Average, which followed Friday’s 666-point drop, investors are swooning. The markets fell sharply after the opening bell Tuesday only to rebound quickly.
“Volatility by itself makes assets scarier and therefore worth less,” University of Michigan business professor Erik Gordon said. And “volatility is more dangerous when the market is at an extremely high valuation.”
That’s exactly where the markets stood before the sell-off: at or near record highs.
“When the market’s at an all-time high, when the valuations are such that everything has to keep going right in order to justify the valuation, then you start to see some volatility and you get scared,” Gordon said.
A key indicator to watch: the Cboe Volatility Index, known widely as the VIX, which is viewed as a direct indicator of how much vacillation investors expect in the markets.
And the VIX is suddenly on fire. The index ballooned 116% on Monday to 37.32, and it’s on another wild ride Tuesday. At the market close, it was down nearly 19.7% at 29.98.
Bottom line: If you had been betting your portfolio on an imminent market dive, you’re suddenly in the money.
If you had positioned your investments on the flip side, it’s not a good day.
An exchange-traded fund called the VelocityShares Daily Inverse VIX (XIV) operates essentially in reverse gear as the actual VIX. And that investment plunged 14% on Monday during trading hours and another 84% after trading hours. It hit a 52-week low Tuesday before trading was halted on it. At the market close, it was down nearly 92.6%.
One factor driving volatility is algorithmic trading. Computers programmed to rip off trades in a fraction of a second when certain financial marks are reached tend to worsen a sell-off, Gordon said.