The gainers from the decline in volatility

Gábor Orbán
macroeconomic analyst and bond portfolio manager

Last month we discussed a possible resurgence of carry trade, as a combination of the weakening dollar, low interest in mature markets, high interest on carry currencies and the declining volatility in the global money markets has fuelled demand for the high-interest-rate currencies. In line with our expectations, this process has continued and strengthened, and it is the forint that has emerged the greatest winner.

Volatility is declining worldwide: by mid-year it had fallen to levels not seen since before the Lehman bankruptcy of last autumn, as the VIX index, a widely used measure of volatility, dropped to around the 26-point mark from last autumn’s 60-70 points. Priced-in counterparty risk, which had emerged as a new risk element at that time (or rather had been attributed greater importance than ever before), fell back to a moderate level. This is reflected, for example, in the index that measures tensions in the US money market; that is, the difference between the one-month dollar money-market interest rate and the Federal Reserve’s target rate, which shot up last autumn and only stabilised to within the 5-7-basis-point band typical of previous years in mid-May.

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