Traders bought and sold an all-time record high 3.15 million VIX options on Friday (as 'elephants' and '50cent' re-emerged) amid the Ross Rout and North Korean shenanigans.

 

But as that volume explodes through the derivaties market, risk and the underlying have notably decoupled...

Several explanations are plausible:

1) a cautious, pessimstic one - demand for downside protection picking up as stocks go parabolically higher;

 

or 2) an optimistic balls-to-the-wall scenario where demand for calls surges as what's better than being long stocks... being long stocks levered!

In fact, this regime shift is now extremely notable, the usual negative correlation regime of VIX and Stocks has been abolished in the last two months. The correlation between S&P and VIX is now +0.25 - the highest since 1998...

We have only seen this regime shift a few times in the last decade or two and typically it has signalled an exuberant top (suggesting the driver is more scenario 2 above).

1998 - Stocks dropped 22% a month after correlation peaked

2000 - Stocks tanked 39% in the next 18 months

2007 - Stocks collapsed 57% in the next 18 months

2011 - Stocks tumbled 22% a month after correlation peaked

But it's not perfect, in April 2017 there was no drop at all.

We wonder which regime shift will occur this time?

A glimpse at today's market suggests the levered long S&P Calls are being unwound (VIX down as stocks sink)...