I hear the same complaints about the volatility index (VIX) over and over again. “The indicator is broken,” and “It doesn’t work properly.” The latest complaint: “Why is the VIX not moving?”
Before we dive into that question, I’d like to point out that technical indicators simply tell us where money is flowing. The VIX tells us how much demand there is for options (puts vs calls) on the SPX 500. When demand is strong for puts, volatility rises and options become more expensive as players seek protection from a potential market drop.
The VIX was elevated for a long time
The VIX recently traveled downward from elevated levels of around 32%. That is a historically high reading; average readings are in the 18-20% range. What’s even more significant is that it stayed above 30% for a long period of time – 12 sessions in a row – before closing at 29%. When the VIX starts coming down, it’s a clear sign of a risk on environment.
Most long-term investors don’t hit the exits when volatility rises. They understand that panic is in the air, and they wait for it to pass. Short-term traders are afraid of their own shadow, and they sell at the first sign of trouble. Hence, they helped keep the VIX elevated.
Why is the VIX not moving?
On a “risk off” day when it appears markets are going to be down (based on pre-market action and indicators), the VIX often surges higher as puts are bought up. But this hasn’t happened during recent down sessions; last week was a good example. What gives? Well, market players are not pricing in uncertainty, which is the heart of the indicator.
We all know that the Fed is on a campaign to raise interest rates. We don’t know how far they’ll go, and apparently that’s not spooking anyone. The VIX is staying down during up sessions, which clearly tells us that the chances of a surprise move are nil. Does that make sense? Nope! But this is the message of the markets.
Bottom line: Understand the role the VIX plays in your trading and investing, and use it in context with your long-term strategy.
