Does anyone remember Goldman Sachs’ 2010 Outlook?
The bank’s year-ahead piece, which carried the title “The Outlook for 2010/11: Exciting, with risks!”, is being given a second life after its December 2009 publication. But not in a good way.
Rumours of losses amongst banks’ equity derivatives businesses sprung forth last Spring, around that May period of exceptionally high volatility and skew. And, after Goldman reported a stunning drop in second-quarter profits — driven largely by an 89 per cent slump in equity trading — it looks like they were true.
Which brings us back to that 2010 outlook.
As Risk puts it:
Ironically, Goldman’s global research team recommended selling equity volatility – via a short S&P 500 Dec10/Dec11 forward-starting variance swap – as its number one tip for 2010 in an investment outlook published at the start of December last year. The note summed up the coming year as “Exciting, with risks!” . . .
Any dealers that held short volatility positions or short variance positions going into May will have endured a rough ride. The dislocations in May followed intense anxiety about Greek sovereign debt, contagion to other eurozone sovereigns and banks, and fears over the future of the euro. Volatility leapt, with the Chicago Board Options Exchange’s Vix index, which measures market volatility as implied by 30-day Standard & Poor’s option prices, rising from 24.91 points on May 5 to 40.95 points two days later – a jump of 64%. It continued to creep upwards, hitting 48.2 points intra-day on May 20 – a 13-month high.
There was also a peak in skew – the difference in implied volatility between out-of-the-money put options and out-of-the-money calls. Three-month 90–110% implied volatility skew on the Dow Jones Eurostoxx 50 index touched 15% on May 20, compared with a high of 12.8% seen after the collapse of Lehman Brothers in 2008, says Deutsche Bank.
And this is one sell-side recommendation the firm itself did follow.
Though some of its clients didn’t.
CFO David Viniar said on Tuesday’s earnings conference call:
A significant driver of our lower equity trading revenues stem from our franchise clients who have been actively looking to hedge their portfolios by being long equity volatility positions. As a result of meeting franchise client and broader market needs, we had a short equity volatility position going into the quarter.
Anyway, Goldman certainly wouldn’t have been alone in its position. (See for instance, BofAML)
But it is the only one to have so prominently published stuff like the below:
Top Trade #1: Short S&P 500 Dec10/Dec11 Forward Starting Variance Swap, at 28.20, Target 21. At current levels, forward variance suggests that the coming years will be as volatile as 2009. But this year was the eighth most volatile year on record, and our recent work on the 2004-template—and our models linking macro outcomes to volatility—suggests that even in a sluggish recovery, volatility can continue to decline . . .
Volatility went on to reach its highest levels in a year, with the Vix ranging from the mid teens to as high as 40 — and sometimes moving at a faster rate even, than the one seen when Lehman collapsed.
Whoops.
Related links:
Q2 perfect time for Goldman to be dull - Financial Post
[Outlook 2010] Goldman sees 2010 as ‘exciting, with risks!’ – FT Alphaville
[Outlook 2010] How will analysts fare? - FT Alphaville
Oops, Goldman didn’t do it for its clients again - FT Alphaville