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Two Events Driving Today's Market

Confused yet? Two events are occuring today:

1) the short euro/long gold trade appears to be unwinding. It's not a coincidence it's happening on the first day of the quarter. Some traders who have successfully ran with this are betting that the trade has run its course and are trying to get out ahead of everyone else. (See: Why Gold Prices Plunged Over 3%.)

2) the midday collapse of the VIX. Traders have been aggressively shorting and/or buying protection recently on the belief that the nonfarm payroll number will disappoint. The have certainly been supported by the below-expectations economic data in the last week (ISM, initial claims, ADP, consumer confidence, new & existing home sales for May as well as pending home sales (contracts)).

But midday today, the VIX began moving down and is now negative for the day. This is very unusual on a day when the S&P 500 is down.

Why is this happening? Because when the VIX is where it was this morning — almost at 40 — it is essentially saying that traders are expecting 2.5 percentage point moves in the S&P 500 every day.

That is very volatile, and at last a few traders are now willing to bet that once the nonfarm payroll numbers are out the market volatility will drop. Prices may remain at these lower levels, but the volatility will be lower as well.

In other words, some traders are shorting volatility aggressively; others are covering their short positions.

What this means: if the nonfarm payroll numbers come in anywhere within expectations (decline of 100,000), we will likely get a snap-back rally.

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