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Updated daily since 2000, it is difficult to say exactly when the Crash Rating lost its way. What can be said is that during 2003 volatility began to abandon the US financial markets, and it has yet to return.
Ordinarily even during extended periods of market calm brief bouts of financial stress occur. Such has not been the case since 2003.
Remarkably, this slide in volatility has continued into 2006, and yesterday the trailing trading range of the S&P 500 (chart below) neared a decade low. Even with Iran a potential target, oil holding above $60 a barrel, the US yield curve inverted, and the yen carry trade threatening to implode, volatility is still on the decline.
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While volatility wasn’t the only consideration for the Crash Rating, it was one of the main ingredients. At the risk of setting the daily rating solely to the tune of the futures market, the Crash Rating will go the way of Greenspan.
The Crash Rating originally began to warn investors about the upcoming stock market bust. This mission was accomplished with a record high rating (at the time) of 7.5 on March 13, 2000. However, over the last two years the rating never jumped above 6.5 and never dropped below 4. In short, it is clear that the predictive powers and overall usefulness of the daily rating have dwindling along with market volatility.
Does the Crash Rating’s adieu mean that a market crash is unlikely going forward? Perhaps. But perhaps also – given that the most successful contrarian indicators often arrive when everyone starts thinking the same way - the demise of the 6-year old Crash Rating has, ironically, made its most important call about the future direction of the markets with a curtain call.
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