As the conflict in Ukraine continues to escalate, market volatility has surged, with investors increasingly concerned about sustained disruptions to production and longer-term risks. While part of the recent selloff can be attributed to a Friday effect, with markets closing lower on concern over taking risk over the weekend, there are signs that investors are pricing in higher longer-term risk. The VIX index is trading inline with prior closing peaks, and 3rd month VIX futures are trading around 1 vol point above levels seen at the start of the conflict.

Positioning in the market has become lighter, with hedge fund nets down to 48% and macro systematic leverage down to the 38th percentile. While investors continue to use broad market shorts to manage risks, they are also hiding out in winners, with momentum exposure in the 85th percentile according to MS PB Content. However, with P/L deteriorating to the point where it may bring on more risk reduction, QDS sees more downside convexity in momentum given its combined exposure to a declining and de-grossing.

On the upside, index vol looks relatively cheap as calls have been abandoned, with QQQ looking the most interesting. The NDX-SPX vol spread is near 5-year lows, and upside skew is very steep in the 92nd percentile. Buy 1m 105% QQQ calls in MSXXMAG7 (where positioning is in the 7th 1yr percentile) for 1.48%, indicative, or buy 2m 110% calls for 2.88%.

On the macro front, the outlook continues to worsen as supply disruptions risk prolonging the economic impact of the conflict. The move higher in yields (as well as wider in credit given private credit concerns) is starting to reach levels where there has been equity pain historically.