- The CBOE SKEW index is a rough measure of the likelihood of a "black swan" type event occurring the next 30 days.
- SKEW is near the upper end of its normal range, implying that many market participants are hedging more than usual.
- The current SKEW value strongly suggests that the common narrative of market complacency, based on the low value of the VIX, misses the bigger picture.
Today (as of writing this) is the last day before the long weekend and I know that you want nothing more than an encyclopedia length discussion of arcane market indices that you've never heard of before in gory detail. As much fun as that sounds, I will keep this somewhat shorter, but I'll provide links so that anyone interested can read more of the details.
A week ago, I addressed what the low level of the VIX implies about the market's future. In short, I argued that it didn't tell you anything about the future. That's not to say I think the VIX is useless; just that we are asking too much of it. One of the more common arguments that had come up was that the low VIX value implied that there was a great deal of complacency in the market. So basically, the low VIX is a contrarian indicator from that point of view.
I never was convinced by that argument, so I started researching other ways to measure risk expectations in the market. I find that the CBOE SKEW index provides a great lens through which to analyze the current market environment. In addition, the SKEW index indicates that there is less complacency among market participants than is believed.
Let's start with what the SKEW index is actually measuring. Like the VIX, the SKEW index is based on 30-day S&P 500 index options. The SKEW measures the relative premium between out-of-the-money (OTM) put options and OTM call options. A higher value of SKEW tells you that OTM puts have a higher implied volatility than OTM calls. You can read about the details on the CBOE website.
SKEW usually trades between 100 and 150 and is currently 142.28 as I write this. That puts SKEW on the upper end of its usual range. Now, CBOE developed SKEW in an attempt to measure tail risk. If you read my earlier article about S&P 500 returns, I provided an explanation for the negative skewness statistic. The skewness statistic and SKEW are related, but the details are on the CBOE site and not worth spending time on here; just be aware that they are both attempting to measure the same thing.
Now, that is enough to make the point I wanted to make in the first place. Yes, the VIX is very low and it can be argued that such a low value means the market is complacent; however, the high value of SKEW tells us that there is a very strong bias toward puts instead of calls right now.
Could there be other reasons that puts are favored so much more than calls right now, sure there are likely some plausible reasons. Even so, I think this is enough to show that the VIX alone is not such a clear sign of complacency (or fear for that matter).