The Vexing VIX

As promised last week,  I'd like to  talk about a very important market indicator that is perhaps not well understood by those of you who are not professional traders. That is the CBOE Volatility Index, known as the VIX.

VIX is an index which provides an  indication on the expected level of volatility (implied volatility) in the US market over the next 30 days. Remember, there are two sorts of volatility. Historical and implied. Historical is just that, looking backwards. Whereas implied volatility is what the market in its general wisdom thinks the volatility will be. 

High volatility means higher options prices as larger swings are expected. Low volatility means little is expected in the way of moves which is why I think of the VIX as an indicator of complacency. Some people call the VIX a Fear Index as volatility tends to explode in down markets and drop in rising markets. That means another way to play the downside is to buy VIX call spreads. And a good way to play a rebound after a large down move is to buy VIX put spreads.

Currently, the VIX is trading at 12.69. It's 52 week range is 11.05 - 21.91 and this indicates to me that there is still  a relatively high level of complacency in the market combined with a relative lack of fear despite the recent downticks and global uncertainty. I view that as a warning signal showing that perhaps investors remain under insured and not as worried about this bull market ending as they should be. But, hey, at this writing (9:02 CDT) the market is quite stable with the Dow up 33. So, maybe caution isn't warranted after all (but I don't think so...)

In fact, the VIX vexes me. I honestly think it's too low. But, hey, I've been wrong before.


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