Investors Are Forgoing Crash Insurance in Options Market


Traders are backing away from bets on a market crash.

The Nations SkewDex, an index that tracks demand for protection against a downward market swing, fell to 57.82 Tuesday, hovering near its lowest levels since the Covid-19 pandemic sent volatility soaring.

The S&P 500, on the other hand, has fallen in 10 of the past 14 trading sessions, down 9.1% since Aug. 16, partly on renewed worries about how quickly the Federal Reserve will move to raise interest rates.

The SkewDex tracks the cost of protective put options on the SPDR S&P 500 exchange-traded fund that would pay out in the event of a large market decline. Puts give the right to sell shares at a specific price over a certain period of time, and can be used to hedge a portfolio or speculate that prices will drop.

One possible reason for the dissonance? Hedge funds and other big institutional investors have already reduced their exposure to the stock market after the S&P 500 dropped 21% in the first half.

“We have seen less demand for hedging because a lot of the large institutions that use protective options have de-risked their portfolios substantially,” said

Steve Sosnick,

chief strategist at

Interactive Brokers Group Inc.

Traders aren’t betting on an extreme market move—known as a tail risk or black swan event—either. The Nations TailDex, which measures the demand for high-payout options tied to such a crash, is also signaling calm. The index has yet to close above 15 since mid-June, after averaging nearly 21 on a daily basis last year and spiking to 56 in March 2020 during the Covid-19 market shock.

“Investors simply are not assigning high probabilities to catastrophic outcomes,” said

Garrett DeSimone,

head of quantitative research at data provider OptionMetrics.

A look at the markets shows asset managers are moving money around in ways that suggest they see a recession coming. WSJ’s Dion Rabouin explains what to look for and why they tell us investors are increasingly pricing in a recession. Illustration: David Fang

To be sure, even if the economy does tip into a recession as the Fed tightens monetary policy, few investors are predicting a protracted downturn. Consumer spending has remained relatively resilient, and the labor market has been particularly robust, with the unemployment rate hovering near a 50-year low.

Despite the lack of demand for hedges, Wall Street’s fear gauge—the Cboe Volatility Index, or VIX—has climbed in recent weeks. That mostly stems from options activity near current market levels, analysts say. 

One way to see that is in the convergence of the VIX, which estimates volatility based on options tied to outcomes ranging from a major crash to much smaller moves, and the Nations VolDex, which is geared specifically toward more immediate price changes. 

Demand for options nearer to current market levels has pushed the VolDex closer to the VIX, compressing the spread between the two and suggesting that activity is what is driving headline volatility higher. The indexes closed Tuesday at 24.42 and 26.83, respectively.

“People want protection immediately…they do not want insurance to kick in only if the S&P 500 falls another 10 or 15%,” said Scott Nations, president of the titular Nations Indexes Inc., which develops volatility and option strategy indexes, the SkewDex, TailDex and VolDex among them. 

He added that investors may have lost their appetite for downside protection after the strategies failed to pay out during the market’s steady grind lower. 

The relative lack of demand for hedges isn’t indicative of a broader trend away from trading options. Volumes are set to break a record this year, with more than 40 million contracts trading daily, according to the Options Clearing Corp. Nearly 913 million contracts changed hands in August, marking the third-highest month on record and a 13% increase from a year earlier. 

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Some traders are still betting on a whirlwind of market volatility through bullish call options on the VIX. More than 105,000 contracts were placed Thursday on the volatility index hitting 70 by January, according to data provider Trade Alert, representing more than 20% of total call volume on the index that day.

Since its launch in 1993, the VIX has only closed above that level 11 times, with all instances occurring during the 2008-09 financial crisis or March 2020 Covid-19 crash. 

Investors have also turned to other avenues for expressing their pessimism—speculators recently upped their bets against S&P 500 futures to the highest levels since March 2020. That sentiment may finally be creeping into the options market: The ratio of put options to bullish call options changing hands over the past week is near historic highs, according to Deutsche Bank research. 

Volumes in put options tied to single stocks also reached the highest level since 2018 last week, according to an analysis of Options Clearing Corp. data by Brent Kochuba, founder of derivatives-positioning data firm SpotGamma.

Mr. Kochuba noted that institutional players such as hedge funds, rather than individual investors, appear to be driving the overall buying pressure.

“We are currently experiencing complacency, rather than relief,” said Mr. Sosnick. “If credit conditions worsen, that could cause a lot of worry.”

Write to Eric Wallerstein at eric.wallerstein@wsj.com

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