'We’re not supposed to have negative yields in the U.S.': Strategist

Steve Sosnick, Interactive Brokers Chief Strategist, joins the On The Move panel to discuss how the markets are being impacted by the coronavirus and leadership’s latest decisions.

Video Transcript

ADAM SHAPIRO: Helping us understand what's happening in markets and where we stand is Steve Sosnik. He is the Interactive Brokers chief market strategist. Steve, you wrote about the sigh of relief during quadruple witching on Friday of last week. Before we get into that, I just want to talk to you very quickly about whether there's concern with something that happened about 10 minutes ago. Essentially, all short-term treasuries, the yields on T-bills out to about a year in maturity were all negative. Anything that you take from that or is this really something that we don't have to worry about?

STEVE SOSNICK: It's definitely something that concerns me a bit because we're not supposed to have negative yields in the US. The Fed fund's target rate is between 0 and 1/4. If this persists, I'm worried. If it's a short-term thing, it's probably just anomalous.

I think we're still seeing a demand for cash and safe assets from a wide range of investors, US and abroad. And I hope that that is more of a technical situation in demand rather than a more permanent situation in terms of the US going into a negative interest rate environment, because that would be punitive on many levels to a wide range of financial institutions that really can't afford this right now.

JULIE HYMAN: Hey, Steve. It's Julie. Great to see you, even remotely. I'm wondering about liquidity. Because you sent us some notes about what you're seeing in the market right now. And you said we're not seeing enough liquidity in the market, which is, frankly, somewhat surprising to me, because early on in this we heard that liquidity wasn't necessarily the problem. So talk us through what you're seeing on that front and how that is then playing out in the market.

STEVE SOSNICK: Unfortunately, there are several definitions of liquidity. So as the Fed is defining liquidity, that's really the ability of assets to be able to be moved from point A to point B, people able to pay their bills, and that not getting bottlenecked through the system. Unfortunately, we use the same term in the markets, but when I'm talking about liquidity, it's much more bid-offer spreads and posted sizes. And we are seeing a real diminution in that over the past few weeks.

For some, basically, those of us who've made markets know that at some level liquidity-- and again, I'm going to refer to market liquidity as opposed to Fed liquidity. Market liquidity is pretty much inversely proportional to volatility. When you have volatile markets, market makers are incentivized, basically, to widen their spreads and shrink their sizes. That means you're seeing less posted bid ask size on wider quotes.

And as a result, that becomes a feedback loop to some extent, because we are-- when you get a situation like that, because the quotes are wider, people who need to move-- people who want to really buy and sell aggressively, taking an offer or hitting a bid, they're doing it on a wider spread and it moves markets.

So volatility at some level begets volatility until you get a period of calm, and that level of market liquidity is impacted as long as we stay volatile. It's a weird circular bit of logic, I know. But that is what we're seeing.

JULIA LA ROCHE: Steve, it's Julia La Roche. You actually kind of took my next question out of my mouth. That was about volatility. The VIX still at elevated levels. How should we think about that, especially for our retail investor audience?

STEVE SOSNICK: Well, this is something I'd love to clear up particularly for the retail investor audience. VIX is-- we always refer to it as the fear gauge. And it's not specifically that. Yes, it does reflect fear in the market, but it is a mathematical construct. It's meant to be the 30-day look ahead, basically where the S&P index traders view the likely volatility over the next 30 days.

So you see a level like 60. That doesn't really mean much, because that's an annualized number. So what we do in the option trading world is we divide it by 16. To take it from an annual number to a daily number, it's the square root of business days-- sorry for getting too mathy-- but it's the square root of business days. Coincidentally, that's about 16, because it's just random. It just works that way.

But you take a 60 VIX, and say, all right, well, that reflects 3.75%, 3 and 3/4% moves on an ongoing basis. Take a look the SPX now. It's up about 3 and 3/4%. So volatility works on the way up as it does on the way down.

So if we look at it mathematically, I think this was a super important question, Julia, because I think people need to understand it. It's that at some level if you're moving this much, you're going to get a VIX that reflects it. We do see in the VIX futures curve. There are the futures that trade on the VIX.

And those are starting to indicate lower levels as we go out, something in the 30's or 40's. A 32 VIX more or less translates to 2% daily volatility. And that right now seems like a bit of a stretch. And so that's why we see the elevated level in the spot VIX index around where it is. And I'm going to argue it's pretty much appropriate, as long as we're moving like this.

ADAM SHAPIRO: I just want to wrap up with this question to you, because I'm now reading articles where some analysts are saying-- they're calling a bottom. We even have a big name over at BlackRock suggesting now is the time to get back into equities. Is this premature, in your opinion?

STEVE SOSNICK: I think calling a bottom may be premature, because bottoming is a process, not sort of a one-day event. And although Monday certainly did feel like that kind of washout, at least in the short term. Since we've seen that, we've seen the Fed spring into action yet again. Actually, they sprung into action Monday, but the market ignored it.

The fiscal stimulus sprang into action. It does feel like a bit of the complete fear, the abject fear is behind us. But it does reflect on-- but this is not-- this virus isn't going away right away. I hate to be the one to say like, oh, this is it. We're waving the all clear sign here.

ADAM SHAPIRO: Steve Sosnik, thank you for joining.