As a boutique financial consulting firm that guides institutional investors around the world, we often receive questions around the Volatility Index (VIX) and how it affects the stock market and other markets around the world, which inspired this post.
In a nutshell, the VIX – often referred to as the “fear index” – is a derivatives futures contract traded on the CBOE (Chicago Board Options Exchange) and is a widely known measure of the implied market volatility based on 30-day S&P 500 Index options. And looking at the metrics on the surface, a higher implied volatility can be reflective of more expensive options premiums and a lower implied volatility can be reflective of cheaper options premiums.
As a forward-looking macroeconomic market indicator, the VIX provides a bird’s eye view into the pervasive sentiment governing markets. A larger value for the VIX reflects higher implied volatility/higher market uncertainty which can be characterized as a large divergence or disconnect between buyers and sellers.
This misalignment of liquidity profiles between market participants represents a highly liquid market. And it is in the terminal stages of maximum market uncertainty where we see the formation of market bottoms and the commencement of new uptrends.
Conversely, a smaller value for the VIX reflects lower implied volatility/lower market uncertainty which can be characterized by an over-alignment of the liquidity profiles when market participants are lined up on one side of the market. And oftentimes it is in the terminal stages of low market uncertainty where we see the formation of market tops.
Essentially, market bottoms can be characterized by a higher degree of market uncertainty and higher implied volatility whereas market tops are characterized by a lower degree of market uncertainty/lower implied volatility.
And by precisely measuring these levels of market uncertainty/implied volatility we can identify the most opportune entry and exits for securities of various asset classes across a wide variety of investment opportunities and classes of investors (hedge funds, family offices, etc.).
Have questions about the VIX and identifying opportune entry/exit points? Let’s connect and explore more.