Wells Fargo says you’ll know the market has hit bottom when this happens (VIX)

Stocks should see a “buyable bottom” when the CBOE Volatility Index (VIX) is above 40 from today’s ~30 reading – a spike likely to coincide with the Fed’s return to rate cuts and the creation of a “Powell put,” Wells Fargo strategists say.

“Look for a handle of 40” [on the VIX]Wells Fargo Securities Equity analyst Christopher Harvey and his colleagues wrote in a recent note. “A VIX > 40 historically coincided with SPX -4% (1 day average) and helped trigger the ‘Powell put’. In other words, the environment must deteriorate before a monetary policy pivot marks a floor for longer-term buyable stocks.”

Analysts looked at VIX data going back more than 20 years and found that when the volatility index moved above 40, the Federal Reserve was usually about to cut rates or had already started cutting rates.

A looser monetary policy is usually positive for stocks, because weak interest rates make stocks look more attractive than bonds or money market accounts. Some call this the “Fed put” or “Powell put,” after current Federal Reserve chairman Jerome Powell.

Harvey and his colleagues wrote that while the Federal Reserve does not officially factor stock prices in its interest rate decisions, “history shows that there is an uncanny relationship between [VIX] spikes and Fed activity. When the VIX (VIX) crossed 40 (eg Sep ’01, Jul ’02, Sept ’08, Feb ’20, Oct ’20), the Fed was about to enter (or already in) an easing cycle. ”

A 40+ VIX preceded the last bottom of 2008-09

For example, Wells Fargo analysts noted that the market moved to the bottom of 2008-09 when the VIX (VIX) rocketed to 47 on September 29, 2008, after Congress initially voted down the Great Recession’s Troubled Asset Relief Program.

The VIX spike occurred as the Fed was well into a rate-cutting cycle, and 40+ reading coincided with the start of one of the last stages of 2008-09 for the S&P 500, which bottomed out some five months later. .

The signal has only been lost three times since 2001

Analysts said a 40+ VIX (VIX) has failed to overlap with a Fed rate cut cycle only three times since 2001.

The first case occurred in May 2010, when the central bank’s Quantitative Easing I program had just ended, and a second case occurred in August 2011, when the Fed funds rate was already at 0%. Markets saw a third instance in August 2015, when volatility peaked and the S&P 500 (SP500)(SPY) fell 9% in two weeks as the People’s Bank of China had just devalued the yuan.

No 40+ VIX in two years

As far as recent times go, the VIX (VIX) hasn’t hit 40 since October 2020 – more than a year before the current S&P 500 downturn started:

Wells Fargo analysts wrote that the lack of a 40+ VIX peak in the current market cycle means the market probably hasn’t bottomed out yet.

“Much to the chagrin of volatility traders, the VIX (VIX) has been behaving well so far,” they wrote. “Volatility expectations – especially for options with a far-reaching downward trend – have kept the fear meter somewhat suppressed for the time being.”

VIX ETFs have crushed it

Nevertheless, ETFs and ETNs based on the Volatility Index (VIX) have had a good year so far. For example, the iPath Series B S&P 500 VIX Mid-Term Futures ETN (VXZ) is up 16.7% in the category so far.

Meanwhile, the ProShares VIX Mid-Term Futures ETF (Bats:VIXM) gained 16% YTD and the iPath Series B S&P 500 VIX Short-Term Futures ETN (Bats:VXX) is +11.2%.

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