Wednesday, April 4, 2012

"Forget about the VIX; Long-Term Volatility is High"

I am reminded of Professor Bodie, one of the sharpest guys in the pension/retirement biz.
Here's a 2010 mention:
"Berkshire May Be Required To Post Up To $8 Billion In Collateral" (BRK.A; BRK.B)
I think it was Boston University's Zvi Bodie* who, shrugging off the restraints of his MIT PhD, pointed out to the "expected return" crowd that if it were true that the risk of negative returns decreases as the time frame increases, the cost of long-term puts should decrease the farther out you go.
Kind of an Emperor has no clothes thing to say.
I'm referring, of course to the equity index puts that Mr. Buffett sold....

...*William Bernstein (No slouch either, M.D. Neurologist, PhD. Chemistry, dabbler in Modern Portfolio Theory, Bestselling Author, etc.) in one of his Efficient Frontier pieces, "Zvi Bodie and the Keynes’ Paradox of Thrift" described the professor as "Academician, raconteur, and all-around good guy Zvi Bodie...".

Then he rips his lungs out. Very typical in the academy:...
(now I know the arguments against Bodie's implication, here's a decent one, here's a counter to the counter, we've got links, baby.)
From dShort:
I'm tired of hearing about low volatility as measured by the VIX. Media outlets refer to this gauge as if it's definitive when assessing risk. But what they may not realize, and certainly don't often share with you, is the shorter-term nature of its appropriate application. The CBOE's own website describes the VIX as, "a key measure of market expectations of near-term volatility conveyed by S&P 500 stock index option prices." It's great for traders who are moving money daily or weekly; but what about long-term investors? I want to share with you a simple chart that expresses my belief that volatility is very high from a long-term perspective.
The chart below is a bar chart of the S&P 500 Index. The S&P 500 had a prolonged and substantial rally during the last secular bull market for stocks (1982-2000). In fact, in just three years between 1997 and 2000, the S&P 500 Index more than doubled. Then in 2000-2002, a period accompanied by the recession of 2001-2002, the index broke roughly 50% in 2½ years. Subsequently, 2002-2007 saw the market double once again in a 5 year period.

Those three major market moves ushered in a dramatic increase in longer-term volatility which continues today....MORE