Market Risks and Options Opportunities in 2026

MARKET ENVIRONMENT

• Despite frequent news shocks, market volatility has remained notably compressed. Equity and FX markets have repeatedly absorbed geopolitical developments and macro data surprises without sustained spikes in implied or realized volatility.

• The market is still characterized by liquidity issues and elevated leverage. This combination can reduce day-to-day volatility, while increasing vulnerability to sudden nonlinear movements. It is not hard to imagine what could trigger market dislocations: inflation resurgence and fiscal pressure pushing long rates even higher (already close to 4% in Japan and 5% in the US), AI-related capital expenditure backlash, to say nothing of the many geopolitical crises....

• In addition, threats to Fed independence and the global role of U.S. monetary policy represent a structural risk. Any loss of central bank independence or confidence in U.S. policy credibility could have massive global spillovers given the dollar’s central role in financial markets. Since the GFC, the Fed has played a crucial role in alleviating market tensions around the world by supplying plentiful dollar liquidity through swaps with the world’s major central banks. A Trump-dominated Fed is not likely to do the same in the future.

In this environment, we believe that investors should be managing tail risks more closely. The good news is that implied volatilities in equities and FX options markets have generally remained relatively low.

EQUITIES

• Equity markets have of course been dominated by the MAG7, which have massively outperformed the rest of the stock market for years now [see chart 1 below].

Chart 1

Source: Goldman Sachs

However, in 2025 only Alphabet and Nvidia outperformed the S&P500 Index. Most investors will be heavily concentrated in MAG7 stocks at this point. Anyone wishing to rebalance or reduce exposure to equities should take note of the huge difference not only in implied volatilities but in skews between the broader S&P 500 and the MAG7 [see chart 2 below].

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Chart 2

Source: Barchart.com

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These huge differences in the absolute level of  implied volatility as well as the skew (difference between out of the money puts and calls) means that investors who wish to reduce their risk profile can employ various option strategies, such as selling calls on MAG7 stocks and buying a multiple of the amount of puts on the S&P 500 index.

CURRENCIES

As for FX markets, the first half of 2025 was marked by dollar weakness as interest-rate differentials reduced, but nothing out of the ordinary relative to the fluctuations of the last few years. The second half of the year saw very modest currency movements for most of the main currency pairs.

As we have noted above, the potential for macro and geopolitical shocks is significant and option implied volatilities do not reflect this at all [see Table  below]. Historically, currencies have experienced much larger movements than we have seen since the GFC.  Any shocks could see dramatically larger movements in both directions, especially if the Fed stops actively contributing to reducing global financial tensions.

‍12 Month Implied Volatility at 15 Jan 2026‍

Source:Investing.com

These option volatilities are still cheap by historical standards and investors should consider using longer-term option strategies to protect against large jumps in exchange rates in the coming months.

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