To Measure Market Volatility, You Oughta Meet VIX

Sheaff Brock | Market Volatility's Fear Factor with Boy Hiding in Bed

To Measure Market Volatility, You Oughta Meet VIX

Meet VIX, the ticker symbol for the Chicago Board Options Exchange’s Volatility Index. The VIX, constructed using a wide range of Standard & Poor’s 500 Index options, is a way to express the market’s expectations of volatility over the coming 30 days. What is actually measured by the VIX is the ratio of put options versus call options being bought on the S&P 500.

By way of background, the CBOE Volatility Index, originally developed back in 1986, was designed to play the same role for options as the S&P index itself plays for stocks. VIX is quoted in percentage points, using a 68% “confidence level.” The price of call and put options is used to calculate the VIX. If the VIX is 15, for example, that would signify an expected annualized change (with a 68% of probability) of the market moving no more than 15% up or down.

The VIX trades in a historical range between 10 and 90, explains Karim Rahemtulla in WallSteetDaily.com. At the low end, the indication would be that stock trading is complacent and slow. At the high end, it would mean the market is panicking.

The “fear factor” nickname for this index of stock market volatility is actually not an appropriate one. A high VIX is not necessary bearish for stocks, because volatility refers to upward movements in the market along with downward ones. What a high VIX reading does mean is that investors are seeing significant risk that the market will move sharply, whether up or down. The VIX tend to be low in “ho-hum” times, when investors perceive neither significant downside risk nor significant upside potential.

Investors certainly appear to be experiencing fear these days, concedes Sheaff Brock Managing Director Dave Gilreath. Small wonder—as measured by days with a greater than 1% price move in the S&P 500, this year’s annualized volatility seems remarkably high compared with all of 2017. Investors, watching this fluctuation day by day combined with headlines about possible trade wars and political scandals, perceive there to be high risk in stocks. Meanwhile, the VIX seems to be signaling far more complacence than panic, trading in only the high teens as of this writing.

No one has yet invented a surefire method of deciphering which way the stock market is headed. A saying that has been attributed variously to William Bruce Cameron, Albert Einstein, or George Pickering reads: “Not everything that can be counted counts, and not everything that counts can be counted.”

The VIX and other models are just “counting tools” investors use to try and better understand the way investment markets function, hoping to escape the big “fear factor” bogeyman!

 

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