Investors who bought US shares at the peak of the market in October 2007 were back in profit for the first time for an hour or so on Tuesday morning, assuming reinvested dividends and no tax. The rise of the total return version of the S&P 500 to a new high comes as the market is on a roll, with share prices the highest since May 2008.
Bears are, not unreasonably, scanning for the signs of excessive confidence that usually herald the top of the market. The Vix index of implied volatility, Wall Street’s “fear gauge”, seems an obvious warning: it is at its lowest since June 2007, before the credit crunch began. Taken at face value it suggests that investors are far too sanguine. But something odd is going on with the Vix. Usually, as shares rise investors become more confident and want less protection against falls. This time investors are cautious, hedging by buying the Vix. Money has been piling into exchange-traded funds that buy Vix futures at a record rate.
This pushed the Vix futures curve to its steepest ever last week. The cost of six-month protection has fallen far less than one-month protection, thanks to the demand. As Orrin Sharp-Pierson at BNP Paribas puts it, a blow-up is still expected, just not in the next month.
Other measures of the options market show investors want to protect their portfolios against losses even as the market rises, the reverse of their usual behaviour. Options skew, the extra cost for bearish puts over bullish calls, is close to a five-year high. The widely watched ratio of puts to calls is high, too, as worry persists.
Survey evidence also suggests investors are not yet overconfident. It is easy to see why. Europe’s crisis is far from fixed, US house prices languish at the lowest since 2002 and the Iran stand-off threatens an oil price shock. All this damps bullish sentiment – leaving space for shares to carry on up for a while yet as investors overcome their fears.