Weekly Commentary on Future Asset Values

Updated with data through July 10, 2014

Latest Report

July 10, 2014 [PDF]


Commentary

For convenience, we now refer to risk-neutral probability density functions and risk-neutral probabilities as market probability density functions (MPDs) and market probabilities throughout our reports.

Inflation
The trends in inflation MPD statistics that we monitor remain in place at all three time horizons. Uncertainty in the form of MPD dispersion is falling. At the same time, MPD skews are positive and/or rising. Below are the MPDs derived from caps and floors with 2 and 5 years to expiry. Both have shifted to the right (current=green) indicating higher market probabilities for higher inflation.

Chart 1

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Chart 2

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LIBOR Rates
Market probabilities for short term rate changes over the next five years remain stable and continue to indicate higher rate levels. Market probabilities for higher short-term LIBOR rates are on the rise in the two year time frame.

Chart 3

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Banks & Insurance Companies
Since our last report on June 12, median share prices have changed little (CCAR 17 banks -0.1%; 11 insurance companies +0.5%). Median MPD standard deviations are higher by 30 basis points for the banks and lower by -30 basis points for the insurance companies indicating only minor changes in tail risk expectations from already low levels. MPD slews generally rose for banks indicating less market probability for downside price moves.

  • Given the recent news around Barclay’s alleged dark pool improprieties, we examined MPD information for the firm over the past 11 weeks (Since May 1). While tail risk, as measured by MPD standard deviation has risen, it remains below the value taken at the beginning of May. (See blue bars in chart below.)
  • Given the recent news related to CS assisting in improper tax evasion behaviors, we examined MPD information for the firm over the past 11 weeks (Since May 1). While tail risk, as measured by MPD standard deviation has risen, it remains below the values measured in most of May and June. (See orange bars in chart below.)

Chart 4

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While both firms’ share prices fell considerably over this period (Barclays -17.4%; CS -11.6%), MPD standard deviations have remained relatively stable and MPD skews have risen. This implies that market probabilities are skewed toward higher prices.

Other Commodity Markets
Since our last report on June 12, MPD standard deviations derived from options on the S&P 500 Index are lower by around -40 basis points as are skews indicating lower tail risk and more market probability bias toward downward equity market price moves. MPD skews in the 10 year treasury bond market also moved lower, indicating market bias toward higher interest rates.

Spot prices of grain and oil futures fell sharply while precious metals prices jumped. At the same time, MPD standard deviations were unchanged to lower. The exception is in the cattle market where tail risks remain on the rise.

  • Market expectations have dramatically reversed course in the grains markets. As noted, prices are dropping, MPD skews are falling as are tail risks. (See corn, soybean, and wheat reports.)

Chart 5

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  • Spot prices in the oil markets fell more than -200 basis points over the past two weeks. MPD standard deviations also dropped indicating less tail risk in the oil markets. (See WTI and Brent reports.)
  • MPD skews continue their recent upward trends for both Gold and Silver. This indicates increased market probability bias toward higher precious metals prices. (See gold and silver reports.)

Chart 6

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