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How to trade the post-Fed volatility

Positive stock-market moves in November on news of increased payrolls in the U.S. indicate investors are comfortable with Federal Reserve monetary-policy normalization. However, global economic uncertainty remains.

Now that we have interest-rate "liftoff," attention has already begun to shift to the potential pace of rate increases over time. This may lead to market anxiety that sustains a higher baseline for implied – as expressed by the CBOE volatility index – and realized volatility.

A trader works on the floor of the New York Stock Exchange while Federal Reserve Chairwoman Janet Yellen explains why the Federal Reserve chose not raise interest rates on September 17, 2015 in New York.
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A trader works on the floor of the New York Stock Exchange while Federal Reserve Chairwoman Janet Yellen explains why the Federal Reserve chose not raise interest rates on September 17, 2015 in New York.

Moving forward, the Fed's data-dependent approach may drive continued strong market reactions. Reactions may be particularly strong to events that underscore the different policy direction of Federal Reserve policy relative to non-U.S. central banks, which continue with an easy monetary policy stance. This may lead to volatility in currency and commodity markets, among others.

As the Fed attempts to manage expectations about rates, investors may want to adjust portfolio allocations to ride out periods of volatility and help ensure long-term investment goals are met.


1) Emphasize stocks over bonds. Monetary normalization means the Fed is bullish on the U.S. economy. Stocks stand to benefit from economic strength in the long run, while bond returns are hampered by interest rates that stay low or rise.

2) Stick with long-term bond maturities. In 2015, short-term interest rates have increased more than long-term rates and long-term bonds have performed better than short-term. With a rising rate environment and a strengthening U.S. dollar, look for this pattern to continue.

3) Focus on volatility risk management. Options-writing strategies can take the sting out of abrupt stock-market movements by generating additional income from options selling. Potentially higher implied volatility translates to higher option premiums, which may result in better protection when the market declines, but also improved participation when the market advances.


Commentary by D. David Jilek, chief investment strategist at Gateway Investment Advisers in Cincinnati.