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Jeff Diercks
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Jeff Diercks, is an investapreneur and recovering CPA. He actively trades his own money and manages the assets of a select group of clients at InTrust Advisors, a Tampa, Florida based wealth management firm focused on trend following and price momentum strategies utilizing ETF securities. Mr.... More
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  • Could The CBOE SKEW Index Be Projecting A Major Change Of Trend? 6 comments
    Jul 21, 2014 11:42 AM

    The SKEW index has been a popular subject of the alternative media over the past few days. I saw it first in a video by Gregory Mannarino over the weekend. It's pundits would say it could be forecasting a major event.

    As a trend follower, I would love it to forecast a major change in market trend quite frankly. It has been a tough ride up on the Fed's money for trend followers and I believe the ride down will be much more profitable for us.

    So what is the SKEW Index?

    For starters, the CBOE SKEW Index ("SKEW") is an index derived from the price of S&P 500 tail risk. Similar to VIX®, the price of S&P 500 tail risk is calculated from the prices of S&P 500 out-of-the-money options. SKEW typically ranges from 100 to 150. A SKEW value of 100 means that the perceived distribution of S&P 500 log-returns is normal, and the probability of outlier returns is therefore negligible. As SKEW rises above 100, the left tail of the S&P 500 distribution acquires more weight, and the probabilities of outlier returns become more significant. One can estimate these probabilities from the value of SKEW. Since an increase in perceived tail risk increases the relative demand for low strike puts, increases in SKEW also correspond to an overall steepening of the curve of implied volatilities, familiar to option traders as the "skew".

    You can see the recent CBOE graphs of the SKEW Index and CBOE Volatility Index (VIX) below:

    The thing that instantly stands out to me is (1) that extremes above 140 on the SKEW do seem to correlate roughly with market tops in 2000, 2007-2008 and quite possibly 2014; and (2) the VIX is near 10 in the above graph and was last at this level in 2007, the last major bear market.

    Here is a close up of recent trading in the SKEW Index.

    As a trend follower, this index is interesting! It brings hope that maybe we are ready for a major trend change, which would be good for us.

    However, the first rule of trend following is that we do not predict markets, our models react instead. This is what allows trend followers to capture higher unexpected returns in both directions in a strong trending market. That is because the trend usually goes further than anyone would have expected. In this case, this bull market has gone much farther than I would have expected.

    So the obvious question is what do our models say?

    The simple answer is most intermediate term models are still stuck in "bull or buy" mode. Some shorter term models are now bearish, but this market has much to prove before I could possibly call this a top.

    For you at home, the simple way for you to know what to do is consider a Free 30 Trial to Stock-Signal.com. We will give you the buy and sell signals on 7 major indexes including the broad S&P 500. Many subscribers use this one signal (i.e., the S&P 500 buy and sell signals) to time whether their portfolio should be in or out of the markets since its signals do not occur very often.

    You can see the past buy and sell signals, below, since 2007:

    (click to enlarge)

    Alternatively, if you have access to charting software, you could watch for a break of the rising wedge pattern (dotted blue lines of middle price chart) by the S&P 500 on a monthly chart and that might give you a pretty good signal as well on when to get out. Your only problem is eventually you will need a good signal on when to get back in. This chart does not give you that information.

    (click to enlarge)

    So the bottom line is the SKEW Index may be telling us something or it may not. You noticed we hit highs above 140 on several recent occasions and just realized one day market sell offs.

    So it is way too early to call a top and trying to predict the future is certainly a fool's game!

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Comments (6)
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  • Gregory Mannarino
    , contributor
    Comments (133) | Send Message
     
    Excellent article and it mentions me! Thank you,
    Gregory Mannarino
    21 Jul 2014, 09:04 PM Reply Like
  • Gregory Mannarino
    , contributor
    Comments (133) | Send Message
     
    Very good article, and it mentions me! Thanks, Gregory Mannarino #StockMarket
    21 Jul 2014, 09:04 PM Reply Like
  • Jeff Diercks
    , contributor
    Comments (72) | Send Message
     
    Author’s reply » Hi Greg, I watch your videos all the time. I love them!

     

    I wish I had enough time to do a daily video, but the nature of my business is just too time intensive.

     

    Keep up the good work!
    22 Jul 2014, 08:33 AM Reply Like
  • Sheldon Sutherland
    , contributor
    Comments (99) | Send Message
     
    Great article. I too, am a daily Gregory watcher.
    22 Jul 2014, 09:25 AM Reply Like
  • infrontofyourback
    , contributor
    Comment (1) | Send Message
     
    Interesting analysis. Only issue I have is not with the assumptions and understanding of the technicals. It's with the freaking euphoric sheeple following the fed and their destructive monetary policies, fake stats, non-recovery and lies. I'm afraid the trend will continue as long as the fed keeps meddling in the markets. It'll continue until it doesn't.

     

    All common sense says to short the heck out of the market, but as it's been said before, the markets can stay irrational longer than you can stay solvent.

     

    Daily Greg watcher here too. Only wish others would see the fed isn't tapering and the debt to GDP at 250, 247 and 460 percent for US, EU and Japan respectively will create the greatest disaster in history. Seems almost ridiculous that the EU was trying to get Greece down to a manageable debt to GDP of 130 percent!
    22 Jul 2014, 06:40 PM Reply Like
  • Jeff Diercks
    , contributor
    Comments (72) | Send Message
     
    Author’s reply » All great comments infrontofyourback! Trend following works when their is an orderly turn in a stock or market.

     

    If this market has been so managed that it works till it doesn't and then it drops quickly and like a rock, there are very few managers who will do well in that scenario.

     

    If that happens and you are lucky enough to go to cash beforehand, better not have your money in a bank because they will take a portion of it on a "bail in."

     

    It is certainly a tenuous environment!

     

    However, that said, markets tend to anticipate major market moves. There are always some who are tipped off or in the know who start to sell (or buy) before major events and those signs are evident to those who watch. Even if this managed market starts to roll, instead of climbing on good or bad news, I doubt it happens overnight and there will be evidence in other markets that it is going to happen.

     

    Thanks for your comments. Greg is right on in his commentary and I love to watch his videos as well. The thing he lacks and anyone lacks is the timing of this thing coming apart!
    23 Jul 2014, 08:27 AM Reply Like
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