Is It Time to Bargain Hunt Brazil?

We interrupt our regularly scheduled CBOE Volatility Index (VIX) and Ebola coverage to bring you... Brazilian election updates!

Brazilian President Dilma Rousseff won a hotly contested runoff election on Sunday.

With more than 99% of votes counted, the incumbent Rousseff had 51.59% of the vote, according to official results. Opposition candidate Aecio Neves garnered 48.41%.

Why does this matter? I mean, as far as I knew, Neymar was the president of Brazil. Apparently, the "pro-business" candidate lost, which served to set up quite the ugly open in Brazil. Here's a look at the one-minute chart of the iShares MSCI Brazil Index (ETF) (EWZ) from Friday's close into Monday's open (click chart to enlarge):

It gapped down about 8%, though it recovered a bit over the morning. Despite the decline, implied volatility tanked as well. Here's the stock over the last few months, with the 10-day realized volatility (purple) and 30-day implied volatility (light blue) at the bottom. I'd note that the Chicago Board Options Exchange (CBOE) indexes EWZ volatility under the symbol VXEWZ, but it's the same as the 30-day volatility here (click chart to enlarge):

If it looks like something you might see after an earnings report, that's because it's the exact same dynamic. Volatility gets bid up ahead of news, the market reacts, implied volatility implodes, and the options owners win if the stock moves enough to offset the volatility decay.

I didn't have the foresight to look at the screen for the expectations in EWZ. But, I'm guessing EWZ moved within the range.

Amazon.com, Inc. (NASDAQ:AMZN), for example, priced in about a 7.5% move ahead of earnings. It actually moved very close to that, about 8.5% near the open. Implied volatility via the VIX methodology dropped from 44 to about 30 the next morning.

The volatility drop in EWZ was much greater. It closed at 58 on Friday, and was about 30 early Monday. So, it's likely that options holders in aggregate lost money -- that is, options priced in a bigger gap than we actually got (individual mileage may vary). Put holders generally won, to make an obvious observation.

That all suggests the big surprise here would have been if Neves won. Brazil stocks have done very poorly lately heading into this, as you can see in the chart above. Even though the results look pretty close, it sure feels like the BM&F Bovespa SA pretty much discounted them already. I know very little (OK, nothing) about Brazilian economic fundamentals. But, it does feel like a decent time to try to bottom fish in EWZ, if you're so inclined.

Disclaimer: Mr. Warner's opinions expressed above do not necessarily represent the views of Schaeffer's Investment Research.