Investors are piling in to insure against more heavy selling in the market

Investors are buying record amounts of insurance contracts to protect themselves from sell-offs that have already been wiped out trillions of dollars US stock value.

Purchases of put options contracts in stocks and exchange-traded funds rose as big money managers spent $34.3 billion on options in the four weeks through September 23, according to Options Clearing Corp. data analyzed by Sundial Capital Research. The total was the largest ever in data going back to 2009, and four times the average since the start of 2020.

Institutional investors spent $9.6 billion in the past week alone. The bragging underscores the extent to which big funds are willing to insulate themselves from the nine-month sell-off, which central banks around the world have encouraged aggressively raise interest rates to tame high inflation.

Investors realized [US] Dave Gillick, senior investment analyst at Gateway Investment Advisors, said the Fed is too constrained by inflation policy wherever it is and they can no longer rely on it to manage asset price risk, so they need to take more direct action themselves. .

Jason Goepfert, who leads research at Sundial, notes that when adjusting for growth in the US stock market over the past two decades, the volume of stock put option purchases has been roughly equivalent to levels reached during the financial crisis. By contrast, the demand for call options, which could pay off if stocks rise, has fallen.

Line chart of premiums spent to initiate new put option contracts, 4 weeks late ($1 billion) showing big money managers hedging as market slips

While the sell-off has wiped out more than 22 percent of the benchmark S&P 500 stock index this year — driving it into a bear market — the slippage has been relatively controlled, lasting for months rather than weeks. This frustrated many investors who hedge themselves with put options or bet on an increase in Cboe’s Vix volatility index but found that the protection was not the intended shock absorber.

earlier this month The S&P 500 suffered the biggest sell-off In more than two years but Vix failed to break through 30, a phenomenon that has not been recorded before, according to Greg Bootel, strategist at BNP Paribas. He added that the overall significant pullback is pushing Vix above that level.

Over the past month, money managers have turned instead to buying shorts on individual stocks, betting they can better protect portfolios if they hedge against big moves in companies like FedEx or Ford, which fell sharply after earnings warnings were issued.

“I’ve seen this extreme turbulence. This is a major structural shift that doesn’t happen every day,” said Brian Post, co-head of equity derivatives in the Americas at Barclays.

Investors and strategists have argued that the slow decline in major indices was partly driven by the fact that investors largely hedged themselves after dips earlier this year. And long-term equity hedge funds have also significantly reduced their bets after a dismal start to the year, which means many have not had to liquidate large positions.

The short-term volatility slope line graph shows that demand has shifted toward hedging dips in individual stocks

With stocks down again on Friday and more than 2,600 companies hitting new 52-week lows this week, Cantor Fitzgerald said its clients are reaping profits from hedging and setting up new trades at lower strike prices while putting them in new insurance.

Strategists across Wall Street have lowered their year-end forecasts as they take into account tougher policy from the Federal Reserve and an economic slowdown they warn will soon begin to devour corporate profits. Goldman Sachs on Friday cut its forecast for the Standard & Poor’s 500 Index, anticipating a further decline in the benchmark index as it canceled its bet on a late-year rally.

“Future trajectories for inflation, economic growth, interest rates, earnings and valuations are all in more flux than usual,” said David Kostin, Goldman Sachs strategist. “Based on our clients’ discussions, the majority of equity investors have taken the view that a hard landing scenario is inevitable.”

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