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Kasper Goosen

16 May 2024
FINANCIAL STABILITY REVIEW - BOX
Financial Stability Review Issue 1, 2024
Details
Abstract
Implied equity market volatility has been low in recent quarters, in both absolute and relative terms, despite tighter monetary policy, rising geopolitical tensions and a balance of risks to economic growth tilted to the downside. This box discusses several factors that may have contributed to the low levels of implied equity market volatility. It describes how progress in bringing inflation down without a deep economic contraction has supported investor optimism and highlights how increasingly common short volatility strategies may also have suppressed implied equity market volatility. The box then examines the divergence of implied equity market volatility from the implied volatility in interest rate markets and discusses possible implications for financial stability. Elevated implied interest rate market volatility could point to downside macro-financial risks that seem not fully priced in by equity investors. Subdued implied equity market volatility – despite broader uncertainties – might suggest an underestimation of risks in equity markets and excessive risk-taking. Consequently, adverse economic surprises or geopolitical shocks could lead to significant market corrections. Large exposures in volatility instruments could, in turn, increase the likelihood of a disorderly correction.
JEL Code
G10 : Financial Economics→General Financial Markets→General
G11 : Financial Economics→General Financial Markets→Portfolio Choice, Investment Decisions
G12 : Financial Economics→General Financial Markets→Asset Pricing, Trading Volume, Bond Interest Rates
G15 : Financial Economics→General Financial Markets→International Financial Markets