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What Does the Collapse of JPY/USD Volatility Mean for the VIX?


When JPY/USD volatility eventually increases, the "fear index" will likely rise as well.

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A lot has been written recently by us at GaveKal Capital and others about the absolute collapse in volatility in financial markets. Whether stocks, bonds, FX, or commodities, volatility is making multi-year lows, but the lack of volatility in the JPY/USD (JPYUSD) cross is among the most stunning of cases. As the chart below shows, the one-quarter standard deviation of daily changes in the JPY/USD, at 4.5% annualized, is at the lowest level since 1977, and it is less than half of the average volatility (10.2% annualized) experienced since the yen began to float in 1973. Because this volatility series displays no long-term trend and is nearly two standard deviations below average, traders should expect the volatility of the JPY/USD cross to return the mean, which implies at least a doubling of volatility at some point soon.
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What a doubling of JPY/USD volatility would mean for other assets, then, is an interesting question. In the second chart (below), we plotted JPY/USD volatility against the VIX (INDEXCBOE: VIX) and observe a tight relationship over the last decade. A doubling of JPY/USD volatility would, therefore, likely coincide with a pickup in implied volatility of US stocks.
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