Traders work on the floor of the New York Stock Exchange (NYSE) in New York, U.S., January 10, 2022. REUTERS/Brendan McDermid/File Photo

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NEW YORK, April 14 (Reuters) – U.S. stock investors are increasingly turning to the options market to hedge against another drop on Wall Street amid fears the Federal Reserve may be less sensitive to market volatility. stock markets as it raises interest rates to fight inflation.

Demand for put options, typically purchased to hedge against downsides, is in line with a trend that has seen investors ramp up their hedging in recent months as the Fed’s hawkish tilt rattles markets after years of double-digit earnings.

The one-month moving average of open put options for each open call on the SPDR S&P 500 ETF Trust (SPY.P) stands at 2.25, the most defensive it has been in at least the past four years, according to data from Trade Alert.

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Stocks pared losses last month, but the rebound faltered in April, leaving the S&P 500 (.SPX) down 7% year-to-date. The Cboe Volatility Index (.VIX), Wall Street’s “fear gauge”, recently stood at 21 and has spent most of 2022 well above its historic median of 17.6.

“It all comes down to the Fed put … where the Fed doesn’t have the back of the equity market right now,” said Chris Murphy, co-head of derivatives strategy at Susquehanna.

The term “Fed put” refers to how investors describe the market’s belief that the central bank will stop tightening or even easing monetary policy if stocks fall too sharply. A recent example that investors often cite is 2019, when the Fed halted its rate hike cycle after the stock market fell. Read more

Some investors believe policymakers are likely to be less responsive to market weakness this time around as the central bank signals it is poised to tackle the worst inflation in four decades with huge rate hikes and a quick unwind. of its balance sheet. Read more

“Persistently high inflation turns the Fed from a theft suppressor and yield suppressor to a theft suppressor and yield suppressor,” analysts at BofA Global Research said in a note on Tuesday.

Fund managers in the bank’s latest survey said they believe the S&P 500 will need to fall to 3,637 before the Fed steps in to support markets – about 13% below this year’s lows. In another sign of nervousness, cash allocations among fund managers were near their highest level since April 2020.

Equity investors may also be concerned about the potential for bond market turmoil to spill over into equity markets, said Anand Omprakash, head of quantitative derivatives strategy at Elevation Securities.

The ICE BofA MOVE Index (.MOVE), a measure of expected volatility in US Treasuries, remains near a two-year high reached in early March.

More and more investors have also taken advantage of the strength in equities to hedge against options. This is a break from the entrenched trend of “buying the dip,” whereby investors build their cash by buying more stocks each time the market dips.

“Volatility levels are auctions because when we see stocks rebound, when we see volatility come in, investors jump on it,” Susquehanna’s Murphy said.

The small-cap Russell 2000 Index (.RUT) and the S&P 500 exchange-traded fund (XRT.P) have also attracted defensive options positioning in recent weeks, analysts said.

Steven Sears, president of investment adviser Options Solutions, which specializes in options strategies for high-net-worth individuals, said a bleaker outlook for the markets combined with significant unrealized gains investors saw last year, prompting more customers to perform protective operations.

“They’re looking to lock in those gains without selling,” Sears said.

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Reporting by Saqib Iqbal Ahmed; Editing by Ira Iosebashvili and David Gregorio

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