While contemplating the current condition of the stock market this morning, I glanced at my coffee cup and the idea for this blog post came to mind. The CBOE (Chicago Board Options Exchange) Volatility Index (VIX) measures market expectations of the implied volatility of S&P 500 index options. In plain terms, the VIX measures volatility (fear). Having a good read on investor fear, or lack thereof, can be a valuable tool for traders.
There is a correlation between a lower VIX and higher stock prices and a higher VIX and lower stock prices. Options Hotline subscribers know I’m fond of saying, “Smart traders use the absence of volatility to prepare for its return.”
As you can see on the weekly chart of the VIX below, volatility slunk away to a very low level in August. That coincided with the stock market’s summer run to its highs. But in the past couple weeks, volatility has come barging back and stocks are starting to sell off.
Some technicians will note lower highs and say volatility is in a down trend. What stands out to me and what should be worrisome for bulls and bring caution to investors is that Monday’s stock rally merely caused the VIX to test support. Stocks were rejected by resistance and the VIX began to climb back up from that support (found at the mid-point of last week’s red candle line and the grouping of lines of average price movement, appearing to be turning up).
This tells me the market may very well see rising volatility (fear) over the weeks ahead. Options are a great tool for portfolio protection. Click here to subscribe to Options Hotline and see how, as we approach our 28th year of publication, we keep our readers a step ahead of the crowd.
Good luck in your trading!