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Outside Influencers Have Been Driving Bond Markets

A VIX for the Energy Sector

The Value of Skill

At 50 cents on the dollar can Puerto Rico cause more pain for the muni bond market?

Data Driven Decisions Replace Forward Guidance

Outside Influencers Have Been Driving Bond Markets

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Jaime Merino

Director, Asset Owners Channel

S&P Dow Jones Indices

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Having announced that the European Central Bank will stimulate its economy though additional purchases, bonds had seen demand recently. Now all eyes are on the U.S. employment data. The markets were quiet going into the release of the employment number as investors waited with some anticipation for direction. Activity did pick up as the U.S. number reported positive economic news that non-farm payrolls were up 25% more than expected. (Estimate: 235K jobs, actual: 295K).

During this week, the 10-year reference bond increase 19bps (5.63% to 5.82%), causing the S&P/Valmer Mexico Government MBONOS Index to lose 1.07% (64.16% annualized). After today’s NFP release, the yield-to-maturity of the 10-year is 5.96%, 14bps up from the previous close and the spread to Treasuries widened to 373 bps.

Real rates also moved significantly this week increasing 17bps causing the S&P/Valmer Mexico Government Inflation-Linked UDIBONOS Index to lose 1.42% (85.24% annualized). February’s CPI will be public next Monday (March 9th), it’s expected to be a 3.01% annual, less than the 3.07% for January.

The Mexican peso has depreciated since the start of the month by 1.47%, from 14.95 to last nights close of 15.17.  Today the currency is up 1.97% (15.47).  Continued currency depreciation of the peso means that the strength of the U.S. Dollar has helped the return of the S&P/Valmer Mexico Government International UMS Index to be less of a loss at -2.48% annualized.

 

The posts on this blog are opinions, not advice. Please read our Disclaimers.

A VIX for the Energy Sector

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Reid Steadman

Managing Director, Global Head of ESG

S&P Dow Jones Indices

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As oil prices have fallen, many investors with exposure to energy companies have wisely kept an eye on VIX. But there is another volatility benchmark – one more suited to energy equity investments – which investors should also watch carefully: VXXLE.

VXXLE is the ticker for the CBOE Energy Sector ETF Volatility Index. This index has same methodology as VIX. However, instead of tracking S&P 500 options, it is based on options tied to the Energy Select Sector SPDR® Fund, a popular ETF known by its ticker, XLE.

VXXLE measures the 30-day implied volatility of XLE and by extension, the index it follows, the S&P Energy Select Sector Index. Just as VIX is inversely correlated to the S&P 500, VXXLE is inversely correlated to XLE, as the chart below shows (3-year correlation = -0.66).

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Even though CBOE does not yet offer derivatives based on VXXLE, this index still has great value as a benchmark, particularly when coupled with other related information. As an example, some analysts compare the changing value of a volatility index with the price-to-earnings ratio of the companies in the underlying index.

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Analysts say that when such a ratio is high, the market may be complacent and a prudent investor might want to scale back their exposure. On the other hand, if this ratio moves to a lower range – indicating prices are relatively low and anxiety is high – a “crash” may be under way and there could be an opportunity to take a contrarian position.

In the case of VXXLE, this ratio has moved drastically over the past year. As the chart above shows, this ratio has gone from its 3-year high to a record low. And in line with this, the S&P Energy Select Sector Index has tumbled, at one point losing approximately 25% of its value.

If you want to use VXXLE to inform your investment decisions, you can access more information on Chicago Board Options Exchange’s website. Also, a tutorial on VIX’s methodology, which VXXLE shares, can be found here.

*Author’s note: Due to data limitations, the second chart uses the P/E for the S&P 500 Energy Sector Index instead of the S&P Energy Select Sector Index. These indices share the same constituents but use different weighting schemes.

 

The posts on this blog are opinions, not advice. Please read our Disclaimers.

The Value of Skill

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Craig Lazzara

Managing Director and Global Head of Index Investment Strategy

S&P Dow Jones Indices

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2014 was an extraordinarily difficult year for active equity managers, especially in the U.S. market; our year-end SPIVA report, e.g., showed that 86% of large-cap equity funds underperformed the S&P 500.  This observation is hardly unique, nor original to us.  What’s unusual about 2014’s results is that the rate of failure was extraordinarily high — between 2000 and 2013, on average “only” 58% of large-cap managers underperformed, as against 2014’s 86%.

Why was 2014 so difficult?  Imagine that a genie gives you a form of perfect foresight: from the constituents of an index, you can always pick the stock whose performance is one standard deviation above average.  How much is your foresight worth?  Well — if the index is up 10%, and your stock pick is up 20%, it’s worth quite a bit.  What happens if the distribution of returns is tighter, so that your stock pick is up only 11% in a 10% market?  Then your skill, which is the same in absolute terms, is much less valuable — perhaps not even valuable enough to justify the costs of trading.

Dispersion measures the spread in returns among the components of an index (conveniently scaled in standard deviation terms, as was the genie’s gift), and dispersion has proven to be a valuable tool in forecasting the success of active stock selection strategies.  In 2014, the S&P 500’s dispersion reached record low levels — which goes a long way toward explaining why it was so difficult for most managers to outperform.

Dispersion also gives us an insight into the way in which active managers compare against one another.  The bars in the chart below show the interquartile range of performance for large-cap active U.S. managers in our SPIVA database — the 25th percentile minus the 75th percentile, or, roughly speaking, the return of the “best” managers minus the return of the “worst” managers.

Dispersion and active manager performance_2014The line represents the average dispersion for the S&P 500 for the year in question.  It’s not a perfect relationship, but it’s obvious that low dispersion reduces the spread between the best and worst managers.

Whether measured relative to passive alternatives or within the active management universe, when dispersion is low, the value of stock selection skill declines.

The posts on this blog are opinions, not advice. Please read our Disclaimers.

At 50 cents on the dollar can Puerto Rico cause more pain for the muni bond market?

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J.R. Rieger

Head of Fixed Income Indices

S&P Dow Jones Indices

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The S&P Municipal Bond Puerto Rico Bond Index has barely eked out a positive return so far in 2015. Meanwhile, bond prices in the Index are averaging 50 cents on the dollar.  The low point for the average bond price in Puerto Rico was July 8th 2014 at 47.27 cents on the dollar.  Just as a comparison, the average price of bonds in the S&P Municipal Bond High Yield Index is over 57 cents and that includes bonds from Puerto Rico.  The average price of investment grade bonds in the S&P National AMT-Free Municipal Bond Index is over 107. 

So how much more pain is there?  That “four letter word”, uncertainty, continues to hang over the market.  The possible restructuring of the debt of the larger revenue bond issuers in Puerto Rico makes for a trying time for the Puerto Rico Senate. Needed tax reform is hotly debated and probably harder to implement. Another question weighing on the market is this: How much more underperformance will state funds that own Puerto Rico bonds and the hedge funds that bought Puerto Rico bonds in the downturn tolerate before flooding the market with bonds? While the market may have already adjusted for this, with the S&P Municipal Bond Puerto Rico Index tracking over $73billion of bonds by par value, it is after all a significant portion of the bond market.

A quick look at performance:

Select Municipal Bond Index Yields and Returns:

Muni Yields & Returns 3 19 2015

Source: S&P Dow Jones Indices LLC.  Data as of March 19, 2015.

 

The posts on this blog are opinions, not advice. Please read our Disclaimers.

Data Driven Decisions Replace Forward Guidance

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David Blitzer

Managing Director and Chairman of the Index Committee

S&P Dow Jones Indices

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Since the financial crisis, the Fed gave clear signals and advance warnings about shifts in monetary policy. Even the “taper tantrum” in May, 2013 was widely heralded in advance.  Early warnings will soon be a thing of the past.  Instead the Fed will watch the economic reports and will set policy at each meeting based on the best available information at that time.  For Fed watchers, analysts and investors this means doing your own work, not just listening to the Fed chair or reading the FOMC minutes.

The FOMC statement published yesterday notes, “In determining how long to maintain this target range, the Committee will assess progress – both realized and expected – toward its objectives of maximum employment and two percent inflation. This assessment will take into account a wide range of information, including measures of labor market conditions, indicators of inflation pressures and inflation expectations, and readings on financial and international developments.”  In other words, policy will be set based on a review of the domestic and global economies and markets.  In a last bit of forward guidance, the statement did pretty much rule out any rate increase in April, but in the same sentence the statement adds, “the forward guidance does not indicate that the Committee has decided on the timing of the initial increase in the target range.”

The Fed’s move away from forward guidance is another step in normalizing monetary policy. Before the financial crisis, the Fed provided general comments on the employment, inflation and the economy but rarely announced policy changes in advance – and even then the announcement was a day or two ahead, not weeks or months.  One of the post-crisis experiments in monetary policy was forward guidance and long lead time announcements to reassure markets and reduce any turmoil from policy adjustments.  The experiment was successful. Now it seems that the Fed believes the markets are sufficiently stable that the early warnings and guidance are not necessary.  Forward guidance was also risky: had the Fed ever needed to change policy after it had promised not to, it would have lost credibility and trust from the markets.  Eliminating forward guidance is a return to the pre-crisis normality — more work for analysts and more disagreements among forecasters.

The posts on this blog are opinions, not advice. Please read our Disclaimers.