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IVolatility Trading Digest™

Volume 19 Issue 33
Inverted Yield Curve [Charts]

Inverted Yield Curve [Charts] - IVolatility Trading Digest™

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Last Monday the 10-Year Treasury Note yield declined nine basis points to end at 1.65% and the S&P 500 headed lower. Then on Wednesday when the 10-Year yield started the day down another 10 basis points and below the 2-Year Treasury Note yield, alarm bells began ringing as the yield curve briefly inverted. The Market Review explains why the markets have become so sensitive to inverted yield curves along with some thoughts on what's next.

Review NotesS&P 500 Index (SPX)2888.68 dropped 29.97 points or -1.03% last week including a 2.93% decline Wednesday after the widely followed 10-2 Treasury Note yield curve briefly inverted before recovering to end the day positive by one basis point. The SPX chart below includes the 10-2 Treasury yield spread at the bottom.


The 10-2 spread closed positive on Wednesday, but SPX closed 85.72 points lower.

By Friday the spread was back to positive .07, down 4 basis points for the week.

VIXDigest Issue 16 "Foremost Indicators [Charts]" explains the
significance of the spread with two selected quotes from the FRBSF Economic Letter, Economic Forecasts with the Yield Curve.

"Every U.S recession in the past 60 years was preceded by a negative term spread, that is, an inverted yield curve."

" An extensive analysis of various models leads us to conclude that the term spread is by far the most reliable predictor of recessions, and its predictive power is largely unaffected by including additional variables."

In an obvious attempt to save the Fed's reputation and calm the markets, former Federal Reserve Chair, Janet Yellen said on TV Friday, that due to unusual circumstances, "this time it's different, " but markets are skeptical, since from experience, professionals know not to rely on "this time it's different" comments, especially when the research indicates otherwise. Here's the research.

FRBSF Economic Letter, Information in the Yield curve about Future Recessions.

"There is no clear evidence in the data that 'this time is different' or that forecasters should ignore part of the current yield curve flattening because of the presumed macro-financial effects of QE."

In addition they add, "...indicating an inversion of the yield curve, about a year or two before the onset of a recession."

In Febuary Deutche Bank released research showing the averge lead time for the last nine recessions since 1956, from inversion to recession at 21 months, including the last episode when the inversion began December 27, 2005, followed by a recession 24 months later on January 1, 2008.

Jolted by the quick drop in interest rates, FOMC traders were likley so busy on Wednesday they missed lunch, doing all they could to keep the 10-2 spread from closing the day with an inversion.

While Wednesday's SPX decline was not hysteria as some claim, it's certainly an indication of how senstive the markets have become to a Treasury yield inversion in a highly leveraged global environment.

Referring to the SPX chart above, there is a potential bullish small double bottom pattern intersected by the operative upward sloping trendline, USTL. To activate, SPX would first need to overcome resistance from the USTL and then the 50-day Moving Average currenlty at 2944.78. While certainly not impossible, it seems unlikey without an annoucmenet of a breakthough in the trade negotiations with China.

VIXCBOE Volatility Index® (VIX) 18.47 advanced .50 points or +2.78% last week. Our similar IVolatility Implied Volatility Index Mean, IVXM using four at-the-money options for each expiration period along with our proprietary technique that includes the delta and vega of each option, gained .85 points or +5.51%, ending at 16.28. The one-year charts below show the IVXM in a range between 15% and 20%.


VIX Futures Premium

The chart below shows as our calculation of Larry McMillan’s day-weighted average between the first and second month futures contracts.     

With just two trading days until August expiration, the day-weighted premium between August and September allocated 8% to August and 92% to September for a premium of 4.76%, in the yellow caution zone, compared to 3.12%, for the week ending August 9.

The premium measures the amount that futures currently trade above or below the cash VIX, (contango or backwardation) until front month futures contract converges with the VIX at expiration on Wednesday.


For daily updates, follow our end-of- day volume weighted premium version located about halfway down the home page in the Options Data Analysis section on our website.

Big Data? In options, we are Big Data!
For a comprehensive review and reminder, check this out
Options: Observations of a Proprietary Trader  


VIXCaution and hedging long risk remain the modus operandi as long the S&P 500 Index remains below the operative upward sloping trendline shown in the chart above.

Despite retail sales increasing 0.7 percent in July, declining interest rates suggest weaker economic conditions. However, until the 10-2 Treasury yield spread stays inverted for a lengthy period, calls for a recession anytime soon seem premature, since the Federal Reserve can lower short-term interest rates to change the slope of the yield curve.


In a surprising display of sensitivity to the slope of the Treasury yield curve, the S&P Index declined 2.93% last Wednesday when the spread between the 10-Year and 2-Year Treasury Note briefly turned negative. Although research shows the lead-time from inversion to recession is 21 months on average, markets are expressing displeasure with the current interest rate situation. While China trade news remained in focus as the number two concern, last week was mostly an interest rate story.

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Actionable Options™

We now offer daily trading ideas from our RT Options Scanner before the close in the IVolatility News section of our home page based upon active calls and puts with increasing implied volatility and volume.

“The best volatility charts in the business.”

This week's the plan was to update skew was overwhelmed by interest rate concerns. The skew update will appear when market conditions appear somewhat less volatile.

Finding Previous Issues and Our Reader Response Request


All previous issues of the Digest can be found by using the small calendar at the top right of the first page of any Digest Issue. Click on any underlined date to see the selected issue. Another source is the Table of Contents link found in the lower right side of the IVolatility Trading Digest section on our website homepage.

CommentAs always, we encourage you to let us know what you think about how we are doing and what you would like to see in future issues. Send us your questions or comments, or if you would like us to look at a specific stock, ETF or futures contract, let us know at Support@IVolatility.com or use the blog response at the bottom of the IVolatility Trading Digest™ page on the IVolatility.com website. To receive the Digest by e-mail let us know at Support@IVolatility.com




I wonder if it is possible to see implied volatility of a certain option at a certain strike price going back for a couple of months or longer?

Posted by dr. Saab on August 19, 2019 at 09:48 AM EDT

Dr. Saab,

Good question.

Our implied volatility index mean show the average implied volatility between the at-the-money calls and put with at least 30 days to expiration. Both complimentary Basic Options and Advanced Historical Data by subscription has this data available in multiple time frames. For strike prices other than at-the-money the data is available from data service on request. If this is what you need just send a request to Support-AT-IVolatility-DOT-com with the specific option for a quote.


Posted by Jack on August 19, 2019 at 03:35 PM EDT

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