VIX Is Complacent, Despite New 2008 Dow Low

I have received a number of questions and comments in which readers have expressed surprise about the relative complacency in the VIX (currently at 23.51 as I type this) while the DJIA is in the process of making a new low for the year.

One important and often overlooked element of a VIX spike is surprise. Similar to Nassim Taleb’s idea that a black swan cannot be anticipated, if all of the Bob Janjuah’s of the world predict an impending market crash, the media runs with the story, and investors rush out to snap up portfolio protection…then it becomes much less likely that people will panic and the market will crash if stocks start to turn down. Put another way, where there is a safety net, there is a lot less fear.

Another point worth noting is that the DJIA is not representative of the broader markets, as reiterated by Adam at Daily Options Report today in Lookout Below? The Russell 2000 and NASDAQ-100 indices, for instance, are showing considerably more resiliency in the recent downtrend.

Turning to the VIX:SDS ratio, which I unveiled last August in Fear vs. Volatility (follow the links for some background and explanatory notes), I use this indicator to evaluate the amount of fear and complacency in the market relative to market movements. The size and direction of the gap between the current ratio and the 100 day SMA or the 10 day SMA and the 100 day SMA provide some useful information about the incremental sentiment involved in market moves.

At the moment, it looks as if the VIX:SDS ratio is showing a small amount of complacency, which I find a little unusual for the current market environment, but not particularly noteworthy. Of course, if investors see the monster approaching and prepare themselves accordingly, it is a good bet that the monster will never quite make it close enough to terrify the markets.

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Comments

[whidbey:]

Will, it is summer and you know, Sell in May....... It could be all of us cowards are taking the sun leaving only the traders who don't express fear readily. In any case summer is not over and one fine day they may execute the future. It is possible if Congress keeps spending and Obama does it. Then we will have test of your indicator then. if it stays quiet I think it means we died. Nice.

2008 Jun 27 12:37 PM

[Jason Tillberg:]

My article back on May 6th, I referred to the VIX being unusually low and how I was fearful. I got very short by buying/adding to SKF, SRS, DXD, QID, FXP and am still holding.

seekingalpha.com/artic...

2008 Jun 27 02:02 PM

[Mike K:]

Everyone is already *short* (look at CFTC COT), and the system has considerably delevered since last year.

Right now the 'if crude > yesterday price, sell S&P' program is running the show.

I think the market assumes the fed has no possible tricks under its sleaves, so is not buying puts, instead is getting short directly.

2008 Jun 27 03:26 PM

[lickety split:]

interestingly i believe the S&P oscillator and the bull / bear ratio are flashing oversold (i.e. cover your short)... the vix will usually move in tandem with these

2008 Jun 27 08:49 PM

[ICouldBeWrong:]

I also read the VIX as indicating complacency.

I guess most equity market participants (S&P500 at least) are expecting the market to find a floor near the 52 week lows. If that doesn't happen, and the S&P500 breaks down to new lows (as I expect), then risk aversion could spike, quickly sending world equity markets much lower, fast.

I would be very cautious about using oscillators currently. In a trending market oscillators will give exactly the wrong signal as a breakdown/breakout occurs. This is not a good time to depend on short term reversion to the mean!

2008 Jun 28 05:32 AM

[mavericks:]

Why buy put options when you can easily short the DIA, SPY or QQQQ? You get instant protection whereas options may not give you a 1 to 1 hedge for another couple hundred points down or so. Obviously, investors are choosing to short ETF's as a hedge. I would like to see a new index which takes into account the % long vs. short of the 3 major ETF's as noted above. I would imagine THAT indicie is off the chart.

2008 Jun 28 11:29 AM

[CLH:]

The man in the street is usually right even the shoe shine boy. The millionaires are usually wrong ( because there are fewer of them). Im betting on a rally.

Ya Im a street boy.

2008 Jun 28 06:01 PM

[Jose Urioste:]

I think that to takk about vix, you should talk about what it measures, then there are no contradictions

2008 Jun 28 10:13 PM