Will the Summer Heat Make the Market Sweat?

May 31, 2023 | Peter Como, CFA, CAIA, Associate Research Analyst

With June and the Treasury’s estimated X-date quickly approaching, the debt ceiling issue came to a head over the weekend. While the spending deal reached between President Biden and House Speaker McCarthy still needs to be approved by Congress, it is an important milestone in the U.S. avoiding its first-ever default. While that worst-case scenario would have had catastrophic impacts on the economy, markets — as measured by the CBOE Volatility Index (VIX), known as the fear index — remained relatively calm. The VIX is measured using option activity and gauges the market’s appetite for volatility. Usually, the market and the VIX are negatively correlated, meaning the VIX increases as markets go down. As shown in the above chart, during times of stress, including debt ceiling uncertainty, the VIX tends to be more dynamic, with sharper jumps and falls. With markets having spent the last year heavily focused on inflation, labor markets, and the path of interest rates, which now seem at least near the peak, debt ceiling negotiations were overall taken in stride by equity markets. It is generally accepted that a VIX level above 30 indicates more investor uncertainty, which we have seen reached multiple times over the last few years, though during the month of May, the VIX peaked around 20. As noted, while the House and Senate still need to consider the bill this week, the most likely outcome is the debt ceiling bill is signed into law before the U.S. would have had to default on its debt obligations, removing one more headwind for markets this year.

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