Spiking VIX Creates Opportunity

Monday, August 22, 2005 | 07:37 AM

I rarely disagree with with Mark Hulbert. He's a longtime observer of the market and its players. Indeed, his tracking service keeps a keen eye on most of the newsletters that offer advice to investors.

However, Mark's take on the VIX in the Sunday NYT was simply wrong:

"Does the VIX, nevertheless, have a role to play as a contrarian market-timing tool? Some market timers think it does, provided they focus on its recent trend rather than its actual level. These contrarians consider fast rises in the VIX to be bullish, on the theory that investors are quickly becoming scared. By the same token, rapid declines are taken to be bearish, since it must mean that investors are becoming smugly confident.

The Hulbert Financial Digest also failed to find support for this interpretation, however. On average, the stock market in the past has performed no differently after rapid rises in the VIX than it did after rapid falls."

Have a look at the chart below from the article:

click for larger chart


Graphic courtesy of NYT

You can tell Mark was never a trader:  any keyboard jock worth his salt looks at those VIX peaks and thinks "BUY."  Each major spike -- depicted less usefully here as a percentage, rather than a numeric basis -- neatly coincides with an excellent buying junctures: 1997, '98, 2002 -- even the short rally in 2001. (The percentage basis seems to work better at bottoms than tops)

Indeed, whenever the VIX spikes over 50, if you are not at least thinking about buying stocks, then you have no basis for calling yourself a contrarian. And if you can find any additional confirming indicators with the VIX up that high -- its time to back up the truck.

For more on the VIX, see page 18 of Contrary Indicators 2000 – 2003 Bear

There are caveats to any statement such as that, but the bottom line is that a VIX spike tends to accompany a panic sell off -- and that's why it makes for a good buy signal.


If the Contrarians Are at the Gate, They May Just Be Lost
Published: August 21, 2005

Monday, August 22, 2005 | 07:37 AM | Permalink | Comments (9) | TrackBack (0)
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There are several factors that create rise in implied volatility, one being supply/demand. when floor traders only buy options they will lower volatility usually well below the vol of the stock. Floor traders rarely find themselves buying options as the market is liquidating. Nine of ten times they are typically selling and ocassionally over sell createing a spike in implied vol. This is due to the fact that nearly ever local if not all are short iv and theres very few sellers.

Posted by: Bobby | Aug 22, 2005 10:09:57 AM

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