Apr
18
Risk Premia Driving the Market, by Henrik Andersson
April 18, 2009 |
The chair has many times pointed out how the vix level is an indication of future moves on the SPX. The VIX seems to be under great pressure here, even with yesterday 2% fall on the SPX the VIX was down, that must be highly unusual. Just an observation.
Greg Calvin writes:
It seems there have been numerous unusual moves in VIX recently. Similarly, today's VIX movement thus far is interesting in contrast to the market's paint-drying picture, and the relative movement in contrast to for example, yesterday's relative moves intraday.
Vitaliy N. Katsenelson writes:
I've met a money manager yesterday who explained to me that the decrease in risk premium is driving the market up (and vice versa). He showed me a nice chart that displayed risk premium as inverse P/E (earnings yeild) less 10 year Treasury. This major problem with that concept is that E over last 3-5 years did not really represent a true earnings power of S&P, it overstated it. P/E was too low. Margins reverted towards the mean -declined, E declined and took market with it. I'd suggest to use a ten year traling P/E, at least it will cover the full economic cycle and thus margins will be normalized and P/E (or earnings yield) will be more meaninfull.
Comments
1 Comment so far
Archives
- June 2013
- May 2013
- April 2013
- March 2013
- February 2013
- January 2013
- December 2012
- November 2012
- October 2012
- September 2012
- August 2012
- July 2012
- June 2012
- May 2012
- April 2012
- March 2012
- February 2012
- January 2012
- December 2011
- November 2011
- October 2011
- September 2011
- August 2011
- July 2011
- June 2011
- May 2011
- April 2011
- March 2011
- February 2011
- January 2011
- December 2010
- November 2010
- October 2010
- September 2010
- August 2010
- July 2010
- June 2010
- May 2010
- April 2010
- March 2010
- February 2010
- January 2010
- December 2009
- November 2009
- October 2009
- September 2009
- August 2009
- July 2009
- June 2009
- May 2009
- April 2009
- March 2009
- February 2009
- January 2009
- December 2008
- November 2008
- October 2008
- September 2008
- August 2008
- July 2008
- June 2008
- May 2008
- April 2008
- March 2008
- February 2008
- January 2008
- December 2007
- November 2007
- October 2007
- September 2007
- August 2007
- July 2007
- June 2007
- May 2007
- April 2007
- March 2007
- February 2007
- January 2007
- December 2006
- November 2006
- October 2006
- September 2006
- August 2006
- Older Archives
Resources & Links
- The Letters Prize
- Pre-2007 Victor Niederhoffer Posts
- Vic’s NYC Junto
- Reading List
- Programming in 60 Seconds
- The Objectivist Center
- Foundation for Economic Education
- Tigerchess
- Dick Sears' G.T. Index
- Pre-2007 Daily Speculations
- Laurel & Vics' Worldly Investor Articles
The (equity) risk premia is still a puzzle, and to this date, no one can precisely measure it.
The biggest folly is the belief that the VIX is a measurement of risk premium. Gents, it’s not, and if you think that, then with all years of experience, you might want to go back for some re-education. Bottomline, market volatility is not a measure of risk premium.
I’ve grown tired of the VIX as a measure of anything. The only reason why I pay attention to it is that there are investors that still believe and bank on it. It moves the markets, and thus I’m compelled to pay attention to it.
Vitaliy, you’re friend showed you nothing proprietary, only the Federal Reserve’s equity risk premium model. My three-staged dividend discount model (better labeled as an earnings capitalizaton model), incorporates the very same method, and is used with other measurements. My Lord, I wouldn’t dream of showing that without the proper disclaimer that it’s not mine.
Equity risk premium is, to me, the name of the game for investors (not speculators). If I applied a 5.6% ERP (historical approximate, according to Ibbotson), my model would give roughly 1200 fair value on forward-looking earnings. If, however, I used 7.2%, which is roughly the Fed’s model, then I get around 700 on the SPX. The variance is too great to bank on with any level of confidence.
What you want to do is create a matrix of various discount rates to various forward earnings estimates. Then you’ll get a range. With that you can get confidence: should the market move to the extreme, search and assess. If you’re confident in your estimates, that’s when to move.
I moved 50% monies into stocks early March. As of Thursday, I’m back into 100% cash. The stock market neared the both extremes. I have no clues what direction the market will take, but I’ll leave the bottom and top 20% to the market, and will play the 60% in between, protecting both principal and gains.
Keep pressing,
Chris Monoki