US Markets

Banks promote volatility spikes as buying opportunities, pointing to tech and financials

Key Points
  • If there's one thing nearly all market players seem to agree on, it's that the era of super-low volatility is over.
  • But that shouldn't cause concern, according to Credit Suisse and others, who are promoting volatility spikes as an opportunity to buy.
  • Investing after spikes in volatility tends to lead to above-average returns for the S&P 500 in subsequent months, Credit Suisse said in a report.
Adam Jeffery | CNBC

If there's one thing nearly all market players seem to agree on, it's that the era of super-low volatility is over.

But that shouldn't cause concern, according to Credit Suisse and other major banks, who are promoting it as an opportunity to buy.

"Obviously, we've seen the VIX (Wall Street's 'fear index') at incredibly low levels, but these spikes in the VIX, historically, if you look at them, are buying opportunities," David Sneddon, global head of technical analysis, told CNBC on Tuesday.

"When you see these big spikes, these are opportunities to buy the market, not to get more worried. And I think at the moment, that's very much proving to be the same again."

Volatility returned with a vengeance in early February, as rising bond yields and fears over inflation triggered a market sell-off and the VIX shot up a record 118 percent, jumping from a low level of 17 to 37, and briefly hitting 50 the following day. Forced selling of short-volatility products also exacerbated the market turmoil. One week later, the Dow Jones and S&P 500 have rebounded somewhat, but are still more than 7.5 percent below their January peaks.

Credit Suisse is among many banks that say this actually presents a positive outlook for equities. In a client report published last week, the Swiss lender unveiled numbers suggesting that investing after a volatility spike is a good call.

"History shows that investing following spikes in volatility tends to lead to above average returns for the S&P 500 in subsequent months," the report said.

Charts revealed that between 2010 and now, on average, when the VIX jumped to higher than 20, the following three months saw returns on the S&P 500 of 6.4 percent. In the same time period following a spike to higher than 25, returns were at 6.9 percent.

A trade inside Nasdaq Marketsite in New York City.
Getty Images

What is key is understanding what caused the volatility in the first place — and the state of underlying fundamentals is a generally good indicator of the market's ability to rebound.

J.P. Morgan has noted that since 1990, there were nine times when the VIX has spiked from low levels to above 35. In three of those episodes, the spike was associated with weaker growth outlook and recession. But the other six times were associated with external shocks that didn't reflect fundamentals, and in those periods the markets recovered quickly.

That is similar to what we've witnessed in the past two weeks, says Nandini Ramakrishnan, global market strategist at J.P. Morgan Asset Management.

"When the volatility index spikes and there's no economic deterioration, often the market does pull back up. Essentially we see the same thing," Ramakrishnan told CNBC.

Financials and tech stocks

"In a time like last week, it could be a place to perhaps add to areas that you have conviction to in the long term or even just top up a bit on the equity market," she said. The sectors to love? Financials and tech, particularly in emerging markets like China and India. U.S. and international financials look good, although it's important to remain selective, the strategist emphasized.

"In general higher interest rates and a steeper yield curve, which we've seen in the past two weeks somewhat materialize, is helpful for financials across the world, but especially in the U.S.," Ramakrishnan said.

Some, however, warn that mounting debt paired with rising inflation and interest rates will trigger a bear market in equities, and that the sell-off witnessed last week could worsen. In any case, strategists elaborated that there is still more to successful returns than simply jumping on a VIX spike.

Wells Fargo's Multi Asset Solutions team decided to lean into the risk and add to its equity allocations on the back of the volatility, Brian Jacobsen, chief portfolio strategist at the bank, told CNBC. But "it wasn't simply because the VIX spiked," he stressed.

There were several key considerations, including future growth projections and fundamentals, ahead of simply looking for VIX spikes. "Those can fool you. They can also precede deeper sell-offs," he said.

"If, over the course of the next few months, inflation and wage growth data are picking up faster than we expect, then that might be a time to reconsider that fundamentals picture, which we still believe is strong now," Ramakrishnan said.