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Investors are piling into insurance against further market selling




Investors are buying record amounts of insurance contracts to protect themselves against a selloff that has already wiped trillions of dollars off the value of U.S. stocks.

Purchases of put options contracts on stocks and exchange-traded funds have surged, with big money managers spending $34.3 billion on the options in the four weeks to Sept. 23, according to data from Options Clearing Corp. analyzed by Sundial Capital Research. The total was the largest recorded in data going back to 2009, and four times the average since the start of 2020.

Institutional investors have spent $9.6 billion in the past week alone. The splurge underscores the extent to which major funds want to insulate themselves from a nine-month sell-off that has been overburdened by central banks around the world aggressively raising interest rates to curb high inflation.

“Investors have realized [US] The Federal Reserve is very limited with inflation where it is, and they can no longer rely on it to manage the risk of asset price volatility, so they have to take more direct action themselves, says Dave Jilek, investment strategist at Gateway Investment Advisors. .

Jason Goepfert, who heads research at Sundial, noted that when adjusting for growth in the U.S. stock market over the past two decades, the volume of stock option purchases was roughly equivalent to levels reached during the financial crisis. In contrast, demand for call options, which can pay off if shares rise, has decreased.

Line chart of premiums used to initiate new put option contracts, after 4-week ($bn) showing large money managers hedging as market slips

Although the selloff has wiped out more than 22 percent of the benchmark S&P 500 stock index this year — pushing it into a bear market — the slide has been relatively contained and lasted months, not weeks. That has frustrated many investors who hedged with put options or bet on a rise in Cboe’s Vix volatility index, only to find that protection didn’t work as the intended shock absorber.

Earlier this month, the S&P 500 posted its biggest selloff in more than two years, but the Vix failed to break 30, a feat never seen before, according to Greg Boutle, a strategist at BNP Paribas. Usually, big drawdowns push the Vix well above that level, he added.

Over the past month, money managers have instead turned to buying put contracts on individual stocks, betting that they can better safeguard portfolios if they hedge against big moves in companies like FedEx or Ford, which have fallen dramatically after to have issued profit warnings.

“You have seen this extreme dislocation. It is very rare that you see this dynamic where put premiums in individual stocks are bid so much in relation to the index, says Brian Bost, co-head of equity derivatives in the Americas at Barclays. “It’s a big structural shift that doesn’t happen every day.”

Investors and strategists have argued that the slow decline in the major indexes has been partly driven by investors largely hedging after falls earlier this year. Long-short equity hedge funds have also largely reduced their efforts after a gloomy start to the year, which means that many have not had to liquidate large positions.

Line chart of short-dated volatility bias showing demand has changed against hedge declines in individual stocks

As stocks fell again on Friday and more than 2,600 companies hit new 52-week lows this week, Cantor Fitzgerald said its clients took profits on hedges and established new trades with lower strike prices while reinsurance.

Strategists across Wall Street have cut year-end forecasts as they factor in tightening policy from the Fed and an economic slowdown that they warn will soon begin to eat away at corporate profits. Goldman Sachs on Friday lowered its S&P 500 forecast, expecting a further decline in the benchmark as it scrapped its bets on a year-end rally.

“The forward paths of inflation, economic growth, interest rates, earnings and valuations are all changing more than usual,” said David Kostin, a strategist at Goldman. “Based on our client discussions, a majority of equity investors have adopted the view that a hard landing scenario is inevitable.”



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