Signal du Jour - Short vol in EDC

The impact of the Trump's trade on emerging markets.

America has spoken, and the world heard it loud and clear: Trump is the new president-elect. While pundits debate the makeup of his cabinet and the specifics of his agenda, the markets have already cast their vote—the so-called “Trump Trade” has driven equities sharply higher and sent bonds down.

But as we discussed on Sunday, are markets genuinely enthusiastic about Trump’s win, or simply relieved that the election process went off without a hitch? For active investors and retail traders alike, the outcome provides a chance to finally move forward—deploy capital, drop costly hedges, and start fresh. Causation versus correlation: which is the chicken, and which is the egg?

Today, however, we’ll avoid the U.S. market, not only because the chances of continued volatility are high after such large moves, but also due to the FOMC meeting on the horizon.

Instead, our focus shifts to emerging markets. During Trump’s campaign, the word "tariffs" was mentioned one too many times, and with the dollar already gaining strength post-election, emerging markets could feel the impact. Will they rally or retreat? We’re not making any strong directional calls—but we’ll be glad to sell options to those who have one.

Let’s dive in.

The context

Emerging markets have significantly underperformed the S&P 500 this year. While the U.S. index is up 25%, EEM has only gained 12%. Today, however, we’re turning our attention to EDC, an ETF that amplifies EEM's movements by a factor of three. This provides short-term leverage for those seeking enhanced returns—though not without considerable risk.

The swings in EDC are far more dramatic, and, as expected, its realized volatility profile bears little resemblance to that of EEM. While EEM generally maintains relatively low volatility (owing largely to its components—well-established companies in Korea, China, India, and Brazil—is “emerging markets” even the right label? But that's a discussion for another day), EDC is an entirely different story.

Realized volatility is at highest level observed this year and is expected to come down.

EDC’s volatility is easily double that of EEM, with sharper spikes and drops. Recently, as with most markets, realized volatility in EDC declined in anticipation of the U.S. election results. Although volatility is still near its highest levels for the year, we anticipate it could remain within this range in the coming weeks.