As the U.S. presidential election draws near, many investors are growing anxious about what the results might mean for the stock market. It’s no secret that elections can shake things up, but instead of picking sides, some investors are eyeing market swings. With an unpredictable race ahead, they’re focusing on trading volatility. This goes to show that they are preparing for turbulence no matter who wins.
This shift in strategy isn’t just about avoiding losses; it’s about finding opportunities in market uncertainty. Let us dig into how volatility trading works, why it’s become so popular, and what you should know about the upcoming election’s impact on the market.
Election Anxiety Spurs Volatility Trades
Investors are already preparing for what could be a bumpy ride in the markets. The closer we get to election day, the more we see traders betting on volatility trades. But what exactly does that mean? Well, volatility trading is all about focusing on big price movements in the market, without necessarily caring about whether prices fluctuate in whatever direction.
At the time of writing, the options market predicts a 2.8% swing in the S&P 500 after the election. That’s a big jump, and it’s higher than what we saw just a few weeks ago. Why? Because the closer we get to the election, the more uncertainty there is. Investors are reading themselves for surprises, and they’re using trades tied to volatility to strengthen their portfolios.
One popular tool for this kind of strategy is the VIX index, often called the “fear gauge.” The VIX measures expected volatility in the market, and this in turn has caused a heightened demand for VIX-related trades. By purchasing VIX call options, investors can cash in if the market gets turbulent. It’s like buying insurance for your portfolioᅳbut the payout comes if the market goes wild.
Why the 2020 Election Still Haunts Investors
To understand why volatility trading is gaining traction, we can look back at the last U.S. presidential election in 2020. That year, the S&P 500 saw some wild swingsᅳjumping 2% the day after the election, and continuing to go up and down in the weeks that followed. Elections are always tricky for the markets because no one can really predict what will happen, and this year’s contest is shaping up to be just as unpredictable.
One reason for the anxiety is how close the race seems to be as polls show a tight contest and many investors are finding it difficult to pick a direction. Stuart Kaiser from Citigroup summed it up well, saying most clients view the race as a toss-up. Instead of betting on the election result, traders are playing it safe by focusing on volatility trades. Employing such a strategy helps manage the risk of a contested election. In 2000, the drawn-out legal battle over the results sent the market into chaos for weeks. While most experts don’t expect the same scenario this year, the possibility of this happening is enough to keep investors cautious. That’s why volatility tradesᅳwhere you win based on market movement, not a specific outcomeᅳhave become a go-to strategy.
How the VIX Became the Election Playbook
The VIX index has become an important tool for navigating this election cycle. As a measure of expected market swings, it tends to spike during uncertain times like elections or big economic announcements. Investors who expect volatility can buy VIX call options, which pay off when the index rises. Take 2016 as an example. Before that election, traders piled into VIX call options, anticipating mayhem. The index surged after the results came in, rewarding those who had bet on volatility. We’re seeing a similar pattern this year, with demand for VIX options spiking as election day nears.
The good thing about this approach is that it doesn’t require a bet on who will win the election. Whether it’s a win for Trump or Harris, the market is expected to experience swingsᅳand the VIX is designed to profit from that.
This strategy, however, does come with a catch. If volatility doesn’t materialize, or if it fades quickly after the election, these trades could result in losses.
Other Factors Fueling Market Volatility
It’s not just the election driving investors toward volatility tradesᅳbroader economic conditions are adding fuel to the fire. Take the Federal Reserve which recently cut interest rates by 50 basis points, and any time the central bank makes a move, it tends to shake up the markets. Investors are already on edge, wondering how the Fed’s policies will play out in the coming months.
Then there’s the U.S. economy itself which has some investors keeping a close eye on the 10-year Treasury yield, which is currently hovering around 3.79%. This yield is often seen as a signal of economic health, and if we see signs of a slowdown after the election, that could result in even more volatility.
International markets are playing a role too such as the Chinese CSI 300 index that recently had its best day in 16 years, jumping 8.5%. With global uncertainties like the U.S.-China trade relationship in play, investors are factoring these external forces into their volatility trades.
Conclusion
As we get closer to the U.S. presidential election, stock market volatility is becoming the new normal. Instead of making straightforward bets on who will win, many investors are taking on the uncertainty with volatility trades. Tools like the VIX index offer a way to profit from market swings regardless of what direction they move. This strategy carries the risk of the trades resulting in losses if the market doesn’t move as expected.
In times of uncertainty, staying flexible is key. Volatility trading provides a way to do that—helping investors manage risk in an unpredictable market. Whether you’re an active trader or someone just keeping an eye on the markets, it’s clear that the election is shaking things up, and volatility will likely be the name of the game until we have a clearer picture of what’s ahead.
