Via Goldman Sachs,

China has been the epicenter of recent market concerns as global markets focus on China's growth trajectory. Equity markets have been hit hard. The Shanghai Composite is down -43% since its peak on June 12th; with -21% of that down-move coming over the last five trading days. HSCEI is down -32% since June 12th, -12% over the past week. On August 25th the PBOC announced a series of moves including lowering the benchmark lending and deposit rate by 25 bps and the reserve requirement ratio by 50 bps.

What is the options market telling us? HSCEI implied volatility > 40, term structure inversion and high skew, all signal caution.

HSCEI: 1m implieds 43, term structure sharply inverted. HSCEI 1m implied volatility jumped 16 points over the last week and as of Tuesday August 25 market close stood at 43, its highest level since Aug-11. A similar story for FXI, where 1m implieds were up 21 points in a week, peaked at 49, and then dropped to 45 after the PBOC announcement and subsequent FXI rally. The HSCEI and FXI term structures are both sharply inverted, continuing to signal caution.

Skew spiked: Earlier in the year, as the rally in Chinese equities was in full force, higher demand for upside calls rather than downside put hedges led to a rarity in the options market. HSCEI, HSI, and FXI were the only major global indices with negative skew. Since mid-April, skew on these indices has done a 180 degree turn, and after a sharp spike, is now positive and fast approaching highs last seen in 2011-2012.

Trade accordingly...