VIX and More

With Syria and the Fed grabbing most of the headlines in the last few days, I wonder how many people have emerging markets currencies at the top of their list of concerns. I am guessing few are poring over the likes of India (EPI), Indonesia (EIDO), Brazil (EWZ), Turkey (TUR), South Africa (EZA), Thailand (THD) and the Philippines (EPHE) on a daily basis. As a matter of fact, I would bet that very few people even know that there is an ETF dedicated to the Philippines.

While keeping an eye on country-specific equities is important, it is currency movements that are at the heart of the emerging markets problem right now. Of course, the issue with currencies is really little more than a downstream effect of rising interest rates in the U.S., which is a result of changing expectations about the Fed’s quantitative easing (QE) program. Since December 2008, the Fed has used a variety of policy instruments to keep interest rates as low as possible in the U.S. and has effectively driven capital to emerging markets, where higher-yield investments looked more attractive. As QE begins to unwind, the supply of easy money in emerging markets has suddenly come to a halt and countries with large current account deficits and loans denominated in dollars (which will be repaid in a local currency that is rapidly declining in value) are particularly vulnerable.

Since many equity investors do not have access to a full menu of currency crosses, I think it is important to note that there are ETPs that track two of the most important emerging markets currencies:

• WisdomTree Indian Rupee ETF (ICN)
• WisdomTree Brazilian Real ETF (BZF)

In the chart below I show the yield in the 10-Year U.S. Treasury Note (UST10Y) in the black line, along with a ratio of the Indian Rupee to the U.S. dollar (ICN:UUP) in orange, as well as a ratio of the Brazilian Real to the dollar (BZF:UUP) in green. Now these are a roll-your-own ratio of ETFs to ETFs rather than the exact currency crosses, but the charts are almost identical (and easily constructed at StockCharts.com), while the key takeaways are necessarily the same. Note that until May, ICN and BZF relative to the dollar appeared to be more positively correlated to U.S. interest rates than negatively correlated. As soon as interest rates began to rise at the beginning of May, both ICN and BZF began to rapidly lose ground against the dollar and the negative correlation with U.S. interest rates suddenly became very strong.

One last point worth noting is that the BZF:UUP ratio has seen a bounce during the course of the last week, while the ICN:UUP ratio continues to deteriorate, as there has been little to suggest that the Indian Rupee is stabilizing, even as Brazil improves somewhat.

[source(s): StockCharts.com]

For those who are interested in evaluating the risk and uncertainty in emerging markets in general, the recent VEXXM as a Measure of Emerging Markets Volatility and Risk is recommended reading for some background and information on VXEEM, the CBOE Emerging Markets ETF Volatility Index.

Related posts:

• Charting the Recent Decline of the BRIC Components
• VEXXM as a Measure of Emerging Markets Volatility and Risk
• VXEEM vs. VIX Indices and Futures in Today’s Selloff
• Implied Volatility Over 150 in EWZ, the Brazil ETF
• Brazil Rallies While China Struggles
• Chart of the Week: Emerging Markets
• The Emerging Markets Engine
• Chart of the Week: 10-Year Treasury Note Yields from 1990
• A Global Indicator to Watch
• The Evolution of the Volatility Index Family Tree

Disclosure(s): long EWZ at time of writing

U.S. stocks are mostly green in today’s session, though there is a good deal of red in global stocks, notably in emerging markets, where the popular EEM emerging markets ETF is down close to 1% as I type this and the Brazil (EWZ) is down more than 2%.

In the chart below, I plot the recent decline of the four large BRIC emerging market country ETFs: Brazil (EWZ); Russia (RSX); India (EPI); China (FXI). While all four country ETFs have declined between 8% and 20% during the past six weeks, the various woes afflicting each country appear to be country-specific to a large extent, though obviously the issues affecting China’s manufacturing base and export market have a significant upstream impact on Brazil.

Emerging markets in general have been struggling as of late, but difficulties in Brazil, India and China have helped to fuel a global selloff.

Going forward, investors will be well-served to keep an eye on all four components of the BRIC block, as well as aggregated BRIC ETFs, such as the most popular issue in this space: the iShares MSCI BRIC Index (BKF).

For those who are interested in evaluating the risk and uncertainty in emerging markets in general, the recent VEXXM as a Measure of Emerging Markets Volatility and Risk is recommended reading for some background and information on VXEEM, the CBOE Emerging Markets ETF Volatility Index.

[source(s): StockCharts.com]

Related posts:

• The BRIC Bull
• Russia Leading the BRIC Rally
• BRIC Update: China a Leader or an Outlier?
• Time to Be Long China?
• Chart of the Week: China Through the Eyes of FXI
• When to Short China?
• VEXXM as a Measure of Emerging Markets Volatility and Risk
• VXEEM vs. VIX Indices and Futures in Today’s Selloff
• The Evolution of the Volatility Index Family Tree
• Chart of the Week: Emerging Markets
• The Emerging Markets Engine
• A Global Indicator to Watch

Disclosure(s): long EEM at time of writing

If you think U.S. stocks have been through a rough patch as of late, then you haven’t been paying attention to emerging markets stocks, where the popular EEM emerging markets ETF as fallen from a high of 42.96 on May 22^nd to 37.02 earlier today – a 13.8% drop in less than one month. A large part of the problem has been the performance of the BRIC countries, where Brazil (EWZ), China (FXI) and India (EPI) are all acting as if they have been thrown overboard with anchors tied to their ankles, making Russia (RSX) look like the most stable investment of the group – which is quite a task.

Investors looking to monitor risk and uncertainty in Brazil and China are fortunate enough to have dedicated volatility indices based on the VIX methodology for EWZ and FXI. These volatility indices were created by the CBOE and use the tickers VXEWZ and VXFXI, respectively. For a more holistic view of risk and uncertainty in the emerging markets space, the best choice is probably VXEEM, the CBOE Emerging Markets ETF Volatility Index that is calculated based on options in EEM.

The chart below shows the relative performance of VXEEM and the VIX going back to the end of October 2012. Note that during toward the end of 2012, the debate over sequestration caused the markets to assign much more additional risk and uncertainty to U.S. stocks than to emerging markets stocks. During the course of the last month or two, this relationship has reversed and the risk and uncertainty associated with VXEEM has grown at a much faster rate than that of the VIX. On average, the absolute level of VXEEM is about 40% higher than that of the VIX. This week, however, VXEEM has been about 60% higher than the VIX.

On a related note, I find it interesting that S&P announced the launch of the S&P Emerging Markets Volatility Short-Term Futures Index just ten days ago. With that index in place, it would be relatively easy to create a futures-based emerging markets volatility ETP that would function in the same manner as VXX, but be based on VXEEM rather than the VIX. The biggest obstacle to this type of product is probably the current lack of liquidity in the VXEEM futures market.

[source(s): Google Finance]

Related posts:

• VXEEM vs. VIX Indices and Futures in Today’s Selloff
• CBOE Adds Options to Emerging Markets Volatility Index (VXEEM)
• CBOE to Launch Futures on Emerging Market Volatility (VXEEM)
• The Evolution of the Volatility Index Family Tree
• CBOE to Publish VIX-Style Volatility Indices for Individual Stocks
• CBOE to Use VIX Methodology for Crude Oil, Corn, Soybean and Gold Volatility Indices
• Chart of the Week: Emerging Markets
• The Emerging Markets Engine
• A Global Indicator to Watch

Disclosure(s): short VXX at time of writing

In case anyone missed it, I wanted to highlight a report yesterday from Reuters which quoted  Edward Tilly, President of CBOE Holdings, as saying that not only is the VIX product line ripe for expansion, but:

“We have benchmarks on a number of other products. I would point out one that is a favorite of mine that I wouldn't be surprised if I saw us launch in the near future - futures on Apple VIX.”

The Apple VIX (VXAPL) was launched in January 2011 along with similar single stock volatility indices for the following:

• Amazon (AMZN): volatility ticker: VXAZN
• Google (GOOG): volatility ticker: VXGOG
• Goldman Sachs (GS): volatility ticker: VXGS
• IBM (IBM): volatility ticker: VXIBM

A successful launch of futures on VXAPL might open the door for futures on one or more of the other single stock volatility indices above.

The chart below, courtesy of Livevol (StockCharts.com, you really should have VXAPL in your database) shows that VXAPL has tended to remain in the mid-30s, but has ranged between the high teens to the high 50s in the first 17 months of its life.

Recall that the CBOE Futures Exchange (CFE) launched futures on the emerging markets volatility index (VXEEM) in December 2011 and followed up by launching options on VXEEM at the end of January. The CFE also launched futures based on VXEWZ (CBOE Brazil ETF Volatility Index, which is based on EWZ) on February 21 and added options to VXEWZ on March 6.

If you enjoy trading volatility products, it looks like we may be entering the golden era of shrink-wrapped volatility indices, which can serve as a product platform for futures, options and even exchange-traded products. If you think VIX-based ETPs are fun, just wait until a VXAPL-based ETP is rolled out. Of course, if there is not enough demand for the futures and options, some of these ETPs may never see the light of day, so early adopters, don’t shy about hitting some of those bids.

Finally, on a somewhat tangential note, I think I received more emails on The Case for Selling Apple Puts than on any other post in the history of VIX and More. To all those who wrote, including those who elected to sell Apple (AAPL) puts, the current environment may be suitable for a revisiting this trading strategy.

Related posts:

• CBOE to Publish VIX-Style Indices for Individual Stocks
• The Case for Selling Apple Puts
• A Brief History of Apple Earnings, in Pictures
• Apple Products vs. Platform
• Using the iPad for Trading
• CBOE to Launch Futures on Emerging Markets Volatility (VXEEM)
• CBOE Adds Options to Emerging Markets Volatility Index (VXEEM)
• The Evolution of the Volatility Index Family Tree

[source(s): LivevolPro.com]

Disclosure(s): long AAPL at time of writing; Livevol and the CBOE are advertisers on VIX and More

While U.S. investors can be forgiven for thinking that stocks have been stuck in a fairly narrow trading range for the last 3 ½ months, those who are scanning the globe for investment ideas are likely to have seen an entirely different investment climate.

A case in point is the Global X/InterBolsa FTSE Colombia 20 ETF (GXG), which has regularly been showing up as one of the top geography-based ETFs in my weekly newsletter. GXG is up 42% in 2010, handily outdistancing the BRIC ETF, EEB, and the popular broad-based emerging markets ETF, EEM, which are down -4.8% and -1.8% year-to-date, respectively.

Whereas BRIC has been a popular emerging markets investment theme for the past few years due to the popularity of Brazil (EWZ), Russia (RSX), India (EPI) and China (FXI), some have suggested that the current decade may turn out to be the decade of so-called frontier ETFs, with countries like Colombia, Indonesia (IDX), Vietnam (VNM), Egypt (EGPT), Turkey (TUR) and South Africa (EZA) among the top performers. These frontier ETFs already have their own catchy acronym, CIVETS, in order to make them easier to recall.

In terms of economic firepower, don’t expect the CIVETS to displace the BRIC countries, but when it comes to returns, the CIVETS are already off and running. With the best performance of any country ETF so far in 2010, Colombia has been acting like the new lead dog and has earned the spotlight as this week’s chart of the week.

Related posts:

• Frontier ETFs
• Chart of the Week: Market Vectors Gulf States ETF (MES)
• The BRIC Bull
• Chart of the Week: Emerging Markets

Disclosure(s): long GXG, IDX and VNM at time of writing

The last time I wrote about the relative performance of the BRIC countries was a little over eight months ago, in Russia Leading the BRIC Rally. At that time, the bounce off of the March lows was barely a month old and Russia (RSX) was leading the way, followed closely by India (EPI), with Brazil (EWZ) and China (FXI) not rallying quite as sharply.

Fast forward eight months and Russia is still out in front, but starting to look a little tired. For all the talk of a Chinese bubble, FXI, the most popular Chinese ETF, is a distant fourth and falling farther behind the other BRIC ETFs with each passing week. Since the end of October, the top performers have been India and Brazil. In fact the top India ETF (EPI) is now 21% higher than it was the day before the Lehman Brothers bankruptcy, while the Brazil ETF is 29% higher than its was trading just before the Lehman debacle.

Looking ahead to 2010, I expect Russia will have considerable difficulty remaining the top performer. I would not be surprised to see Brazil eclipse the bunch, followed by India and a resurgent China. One thing is certain: if investors can predict the plight of the BRIC ETFs in 2010, quite a few of the other pieces of the investment puzzle will magically begin fall into place.

For more on related subjects, readers are encouraged to check out:

• Russia Leading the BRIC Rally
• BRIC Update: China a Leader or an Outlier
• Time to Be Long China?
• Chart of the Week: China Through the Eyes of FXI

[source: StockCharts]

Disclosure: none

The last time I checked in with the BRIC countries, four months ago, the issue de jour was BRIC Update: China a Leader or an Outlier? At that time, China was starting to move impressively off of an October bottom and Russia was a notable laggard.

As the chart below shows, in the five weeks since the U.S. stock indices have bottomed, it is Russia (RSX, red line) that has been the strongest performer, followed by India (EPI, blue line), with Brazil (EWZ, gold line) and China (FXI, black line) bringing up the rear.

I watch these relationships closely for a number of reasons, not the least of which is to determine how well the group as a whole is performing, if any particular country is separating itself from the pack, whether commodity producers or consumers are in favor, etc.

Part of the reason Russia has bounced more than its BRIC counterparts is that Russia suffered disproportionately in the recent bear market. In the nine months from June 2008 to February 2009, the RSX Russian ETF lost more than 82% of its value. The last month, however, has seen some notable improvements. Russia’s credit default swaps, for instance, which reflect to the cost to insure the country’s debt, have improved from 694 to 412 in the last four weeks as the outlook for that country’s sovereign debt has improved dramatically.

Going forward, country-specific trends may continue to dominate, but I suspect the relative performance of Russia and Brazil will say more about improvements in the commodities market as a whole than about the plight of a particular national economy.

[source: BigCharts]

I have commented on resurgent Chinese stocks several times in the past few weeks, most recently in China About to Break Out? Now that Chinese stocks (FXI, black line) appear to be on the rebound, an important question is whether this is an isolated phenomenon or one that will also affect other emerging markets economies.

As the chart below shows, the rally in Chinese stocks has significantly outdistanced the recent bounce in emerging market stocks (EEM, orange line). It is the other three members of the BRIC group, however, that are lagging China and the broad emerging markets group the most. Not surprisingly, commodity-rich Russia (RSX, blue line) is the biggest laggard among the BRIC countries, while India (EPI) and Brazil (EWZ) are trailing the broader emerging markets index, but performing better than Russia.

The question of whether growing domestic demand and a massive government stimulus package will result in a China-specific rebound or help pull other global economies along for the ride is not likely to be answered soon. In the meantime, China looks strong on a relative basis and other emerging economies should be watched closely for clues about the geographical breadth of the rally.

[source: BigCharts]

Truth be told, I could pick a ticker at random and have a compelling chart of implied volatility. Some, of course, are more compelling than others.

Take EWZ, for instance, the Brazil ETF. This resource-rich country has seen its ETF lose more than half of its value over the past year, coupled with a dramatic rise in volatility over the course of the past month.

In the chart below, courtesy of the International Securities Exchange, one can discern that implied volatility and historical volatility had been hovering in the range of 40 even as the ETF trended down during the summer. Starting in early September, the increase in volume in both the ETF and the options hints than an even wilder ride is coming.

In fact, implied volatility spiked from 40 to over 140, with historical volatility making similar gains. At the moment, both mean IV and HV are over 120, with both the near the money calls and puts expiring at the end of the week showing implied volatility readings in excess of 150. This is country risk at extreme levels.

Those with a directional preference who are looking to limit risk in high volatility environments may wish to look at bear call spreads for a short bias and bull put spreads for a long bias.

[source: International Securities Exchange]

[Disclosure: long EWZ at time of writing]

As I noted yesterday in The U.S. VIX vs. a BRIC VIX, emerging markets have been struggling mightily in the past few months.

An excellent example of the weakness in emerging markets can be found in Brazil, where the Brazil country ETF (EWZ) fell 44.3% from a late May high to a low that was made yesterday. Now picking bottoms is a game best suited for those who are long on hubris and short on common sense, but there are several factors which lead me to believe that yesterday’s low may turn out to be an intermediate or long-term bottom.

From a purely technical perspective, the chart below shows Tuesday as the lowest close (omitted is the intra-day 52 week low from yesterday). Also on Tuesday, EWZ’s options volume hit a new high for 2008 and implied volatility spiked to levels not seen since the March panic. Of course, none of these factors guarantees a bottom, but taken together, and given the relative strength of EWZ once again today (up over 4% as I type this), they increase the likelihood of a profitable entry.

[source: International Securities Exchange]

[Disclosure: long EWZ at time of writing]

As a five stock portfolio that has sector concentration rules built in but no country or regional rules, there are occasional instances in which Portfolio A1 inadvertently takes multiple positions in a concentrated geographical area. This week is one of those instances, as the portfolio is selling fertilizer producer Terra Industries (TRA) after the company triggered an automatic sell rule by dropping 20% from the high during its holding period.

In lieu of TRA, the portfolio is adding Brazilian pulp and paper producer Votorantim Celulose e Papel SA (VCP), an ADR which I will henceforth conveniently refer to by their ticker. In Brazil Rallies While China Struggles, I recently noted how the Brazilian ETF (EWZ) had reflected the country’s recent superior performance relative to the more widely discussed China ETF (FXI); for those looking for individual Brazilian equities, you may wish to add VCP to you watch list, as it looks like it may have pulled back to technical support. VCP joins Brazilian telecom standout Tele Norte Leste Participacoes SA (TNE); together these two companies will now comprise approximately 42% of the portfolio.

In spite of some recent weakness, Portfolio A1 still holds net performance advantage of 16% over the benchmark S&P 500 index, with a 4.5% cumulative gain vs. an 11.5% cumulative loss for the SPX.

There no other changes to the portfolio for the coming week.

A snapshot of Portfolio A1 is as follows:

As the chart below shows, speculative money has been cautious about China since late October, but still bullish on Brazil, as indicated by the strong performance in EWZ, the iShares MSCI Brazil Index ETF. Not only is EWZ showing a gain for the year, but in an impressive display of strength, it has rallied more than 30% off of the January low. This performance puts EWZ not only well ahead of the most popular Chinese ETF, FXI, but also considerably ahead of the broad market emerging market ETF, EEM, known formally as the iShares MSCI Emerging Markets Index.

While EWZ is a great way to play the Brazilian market, there are several ADRs that are worth singling out as well. My Portfolio A1 holds Tele Norte Leste Participacoes SA (TNE) and has also been long Brasil Telecom Participacoes SA (BRP) in recent months, but there are even better plays. In fact, of the handful of long-term global holdings that I believe you could almost buy and forget about, two of my favorites are Brazilian giants. At the top of the list is Petroleo Brasileiro SA (PBR), a.k.a. Petrobras, the superbly managed national oil company that is pushing the envelope in the ultra-deep recovery space with their massive Tupi oilfield. Close behind is Vale (RIO), formerly know as Companhia Vale do Rio Doce, the metals and mining giant that recently extracted a 65% price increase in iron ore prices from Baosteel, the largest steel company in China.

In a healthy global economy, PBR and RIO are two of the best blue chip oil and iron plays out there. For those wishing a broader, more diversified play, EWZ is hard to beat, especially as Brazil continues to outpace China.