On Wednesday, September 30, in Geneva, Switzerland at the Fourth Annual CBOE Risk Management Conference (RMC) Europe, two experts – (1) Maneesh Deshpande, Managing Director and Head of Equity Derivatives Strategy, Barclays, and (2) David Rogal, Director and Portfolio Manager, BlackRock-- engaged in a discussion of -
- Focus on Interest Rate Volatility
- VIX versus TYVIX CBOE/CBOT 10-year U.S. Treasury Note Volatility Index: Similarities and differences
- Comparing volatility risk premia in rates and equities
- Cross asset trading between rates and equities using vanilla and hybrid products
TYVIX Index – 10-Year Price Chart
CBOE Futures Exchange offers futures on the CBOE/CBOE 10-Year U.S. Treasury Index (TYVIX). The all-time daily closing high for the TYVIX Index was 14.72 on Nov. 20, 2008. The historical patterns of TYVIX often exhibit upward spikes when 10-year Treasury note and futures prices experience large swings, especially on large downswings. Due to this dynamic, TYVIX futures could provide a hedging mechanism for core instruments of the U.S. fixed income market such as mortgage backed securities, and corporate, municipal and government bonds.
A Sept. 24 story in the New York Times noted --
“The Federal Reserve still intends to raise its benchmark interest rate this year, barring unpleasant surprises, the Fed chairwoman, Janet L. Yellen, said on Thursday. Ms. Yellen, speaking a week after the Fed announced it was not ready to raise interest rates just yet, reiterated that the central bank was not planning to wait much longer. She said that labor market conditions were improving and that the Fed expected inflation to follow. …”
The next chart shows that 10-year U.S. Treasury interest rates dropped from 15.84% on Sept. 30, 1981, to 2.22% on Aug. 31, 2015.
SPEAKERS’ REMARKS AT CBOE RMC
Maneesh Deshpande had a number of comments, including --
- Liquidity in TLT options has been steadily increasing. Option liquidity for IEF remains quite low despite a recent sharp increase.
- Equity index options trading is dominated by put buying, while flow much more balanced in interest rate options.
- Level of TYVIX Index is on average half of VIX, but TYVIX has more spikes.
- Rates skew is much lower relative to SPX skew.
- The Barclays US 20+ UST Index (TLT ETF underlying) is highly correlated to US front month future, but with a beta of less than 1 as the durations of the two differ.
- Term structure of rates volatility not as upward sloping as in equities.
- Rates VRP (volatility risk premium) has lower draw-downs, more consistent performance, and low correlation with equity VRP over the long term, which makes them an attractive complement to equity volatility selling strategies.
David Rogal noted that --
- 20% of our option activity is “hedging” related and viewed as a cost center, while 80% of our option activity is dedicated to alpha generation.
- The spot-volatility correlation is unstable for interest rates and foreign exchange. By contrast, particularly for US equity index products, the spot-volatility correlation is consistently negative. Empirically, equity prices tend to fall faster than they rise. This relationship does not hold for interest rates.
- Recently, normal basis point implied volatility has increased with interest rates. This relationship has held when coming from very low interest rates and it breaks down at higher rate levels. The global financial crisis was an exceptional period, where implied volatilities rose sharply everywhere. As interest rates approach zero, realized and implied yield volatility are biased lower, due to lognormal constraints, and put-call skew is biased positively. This is not generally true for higher levels of interest rates.
- Like their equity counterparts, interest rate volatility and skew can be used as positioning indicators, and they can be helpful alongside other technical and macroeconomic analysis.