'Fear gauge' futures close to signaling U.S. stock selling crescendo

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By Saqib Iqbal Ahmed

NEW YORK (Reuters) - Futures tied to Wall Street’s fear gauge are close to sending a signal of growing fear that has sometimes preceded past stock market rebounds.

With investors awaiting a consequential Federal Reserve announcement on Wednesday afternoon, October VIX futures were trading only 0.20 points lower than November futures, the slimmest margin since mid-June, when the S&P 500 marked a bottom.

VIX futures, which plot volatility expectations for several months ahead, normally remain upward sloping, with near-term futures relatively less pricey than those that target coming months.

An inverted curve, when near-dated contracts are more expensive than later dated ones, suggests investors are growing more worried about near-term events, raising the cost of hedging.

Such a signal has occurred prominently five times since 2020, with two instances followed by market rebounds, including the most recent one in mid-June.

GRAPHIC: Volatility futures https://graphics.reuters.com/USA-STOCKS/akpezbkxjvr/chart.png

"It's usually a sign all the risk is being pulled into the here and the now," said Chris Murphy, co-head of derivatives strategy at Susquehanna International Group.

"That's why often we will look at it as a capitulation indicator," Murphy said.

The two nearest VIX futures last inverted in June, amid a bout of intense selling that drove the S&P 500 to its bear market low. The index staged a 17% soon after, though most of that rally has been reversed on fears the Fed will be more hawkish than previously anticipated.

While an inversion this time may well indicate intensifying selling pressure, it does not necessarily signal an immediate end to the market's recent slide, Murphy said. For instance the two front month VIX futures remained inverted for a month - from mid-February through mid-March - before the stock market selloff in the first quarter took a breather.

To be sure, much of the bump up in near-term volatility expectations that is creating inversion now may be coming from the looming Fed decision, and could well recede once the decision is out of the way, strategists said.