More Good News

Just before Christmas, I reported that the CBOE‘s Volatility Index (^VIX) had fallen from “an apocalyptic 80 percent” to a merely extraordinary 45 percent. And I said:

When it drops below 30 percent, it will be a strong indication that the market correction is complete and we’re back to business as usual.

Happily, we’re going to get a chance to see if I was right. This week, the VIX fell below 30 — closing at 28.80:


Thirty percent volatility is still 10 percentage points higher than normal. So the roller-coaster ride may not completely be over. And returning to normal volatility does not mean that the stock level will return quickly to its pre-crisis level. But it is a sign that the worst gyrations may be behind us. In fact, we may not want a rapid upturn in prices.

A friend (who is net long in the market) quipped yesterday that the only thing better than the stock market going up 3 percent on Tuesday would be if it had only gone up 1.5 percent.

But we should take it as good news that after a substantial stock price run up on Monday, the VIX responded on Tuesday by falling — a sign that the increase was moving us toward lower future volatility.


I don't think VIX is a good indicator to predict the market.


#1 - Why?


"And returning to normal volatility does not mean that the stock level will return quickly to its pre-crisis level."
Of course...if the VIX is low, this means that we should revert to a more normal stock risk premium, meaning that it will take years and years for stocks to return to their pre-crisis level, perhaps 10-20.


A steep and steady climb up, followed by a steep and steady fall, followed by a steep and steady climb, followed by a steep and steady fall = low volatility. Volatility is the "spread-out-ness" of the individual data points. When everyone is moving in the same direction it is low volatility, but it doesn't say anything about sustainability or validate the wisdom of the crowd. We're looking at market P:E of 16+, and the bleeding of profits hasn't stopped across the board. Just because the second derivative (acceleration down) is turning positive doesn't mean that the first derivative (rate of steady decline) won't stay negative for a long, undetermined time.

C. Larity

Since past results are 100% indicative of future performance, we can assume that VIX is going to reach zero around December of this year, then progress into the negatives sometime around March of 2010. I'm not entirely sure how to make money off of this, but I assume there's a way.

One stock market tip I can recommend, though: Always buy stocks that are going to increase in value, then sell them when they've increased to their maximum value. That's my strategy. Feel free to make it your own.


Reply to # 2

Since VIX is a weighted mix of prices of a number of options on the S&P 500 index, I think by construction it is an endogenous variable when it comes to predicting the market.

Dave F




Seminymous Coward


* The timing is left as an exercise for the reader.