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http://www.freefdawatchlist.com/2012/08/trading-volatility-s-index-vix.html

Last week, there was big disconnect between S&P500 and Volatility S&P500 Index. For the week, S&P500 was up 5.02 point or 0.36% but Volatility Index S&P500 VIX was down from 17.43 to 15.64 or -9.36%. So, Why this disconnect ? and Where is VIX heading and how low will it go ? This are the few question every trader has in their mind.

Volatility Index vix was down 9.36% while S&P500 was up 5 point or 0.36% for the week

Why there was disconnect between S&P500 and VIX ?

Buy the rumor, and sell the news

The answer is "Buy the rumor and sell the news" and "Go opposite of what majority think". Last week, VIX kept rising because there was uncertainty whether FED, ECB or BOE will do something or not. FED, ECB and BOE didn't provide any stimulus to the market but the news was out and many took long position in VIX in anticipation of fear rising but the rumor of ECB doing something kept coming late Thursday afternoon, which led to sell off in VIX. As the short position increased in S&P500, because of no action from central banker, market was set for rebound. But the price action in VIX is over done and it should rebounce as the biggest event of this year is coming on September 12th, when the German Court will rule out on bailout fund and fiscal pact.

How Low Can Volatility Index (VIX) go ?
In stock market what goes up will come down and vice versa. VIX has hit 10.42 in Nov, 2006 and 10.66 in Jan 1994. So there is possibility that it can go as low as 10.42 At the same time everytime VIX has hit low, it has bounce back and doubled in no time.

In stock market, what goes up comes down and vice versa. VIX is a buy at current level.

Zooming into 4 year VIX chart, its close to all time low.

How to trade VIX ?
There are many ways to trade VIX and it depends on how much risk one is willing to take. As long as VIX is in contango, it's likely to sell off on Rally and that's what happening with VIX in last 8 month. Once, VIX is back intobackwardation, it will rally very sharply. Most of the time VIX is in contango. One can trade different VIX ETF, or you can use broker of your choice or use Option House to buy VIX itself.

For long VIX: I really don't like Credit Suisse (TVIX) depending on the risk, VXX is better choice.

For Short VIX:

So far market has been rallying on the hope of that Central bankers will be easing on slowdown. China has already cut the rate twice in one month. ECB and BOE cut the interest two week back and Fed has already extended operation twist. Inspite of this, all the economic data is showing more weakness in the global economy. Stock market is still hoping that Fed will come up with QE3 in the July end FOMC meeting. This year, ECB has been carrying Fine tuning operation on Tuesday and that's the reason we saw major stock market rally on Tuesday. Whatever Fed decides in the fomc meeting but at the moment, stock market is set for further decline.

On analysis, head and shoulder pattern have been formed in Dow, S&P500 and Nasdaq and all the three index is expected to decline. Market is expected to open lower on July 23rd. There are few thing that can save this market one is ECB Tuesday's fine tuning operation and hope of QE3 from Fed fomc meeting. Without FED or ECB this market can easily decline 10 -15%. VIX is expected to rise in coming month, so keep VXX, UVXY in your portfolio.

Lets analyse the chart of Dow, Nasdaq, and S&P500

Dow 6 month chart:

Dow 6 month chart

If we look at the 6 month chart, Dow has formed head and shoulder pattern and its expected to decline in coming days. 12741, 12615, 12506 are the biggest resistance on the downside. 12506 is the biggest resistance, if it breaks then Dow is heading below 12000.

Dow 3 month Chart:

Dow 3 month chart

Bulls would like to see Dow break above 12,836 resistance, while bears would like to see Dow break below 12,741 resistance.

Dow 1 month chart:

Dow 1 month chart

Bulls would like to see Dow break above 12,872 resistance, and bear would like to see Dow break below 12,765 resistance.

Nasdaq 3 month chart:

Nasdaq 3 month chart

Bulls would like to see Nasdaq break above 2940, and bear would like to see Nasdaq break below 2912 resistance.

S&P500 3 month chart:

S&P500 3 month chart

Bulls would like to see S&P500 break above 1369, and bear would like to see S&P500 break below 1355 resistance.

Source:http://www.freefdawatchlist.com/2012/07/past-performance-of-s-during-us.html

This has been the craziest year for stock market. Since the beginning of the year, Global economy showed slowdown in every sector. Macro fears has been maximum, but fear index volatility Vix is down near 52 weak low. Every bad news sounds as if there could be another Lehman like event.

This is election year, so expect equity to be positive for the first half. Once election is over, S&P500 will turn negative for the year.

Table Below Shows Market Returns for Each Election Year Since 1928

Majority of the investor were hoping of major sell off after negative JPM earning and China GDP slowed down to 7.6%, but once again market reacted in opposite direction to what majority thought. JPM rallied 6%, while Dow Jones was up 204 point, S&P500 22 point and Nasdaq 42 point. For the week, Dow was up 4 point, S&P500 was up 2.1 point and Nasdaq was down 29 point. since 4th June, Dow is up 732 point, and s&P500 is up 79 point.

Below chart shows, 1 month, 3 year and 15 year chart of Dow Jones. Next week is very important, if Dow breaks 12,840 resistance, its going above 13k. 1 Month chart needs one more day of rally, to confirm the uptrend. Dow has been in 8000 - 12,000 range for past 15 year. 15 year chart shows, there is possibility of Dow going back to 8000-9000 level because the bull rally which started in 2009 needs correction which hasn't happened. There is no doubt fed will manipulate this market which they are doing even now, but they were present when flash crash happened and when market dropped 1000 point in 2008-2009,2010, 2011 and 2012.

Next week is very important if Dow break 12,840 resistance, then its going above 13000. Dow needs one more day of rally to confirm uptrend.

Dow Jones 3 year chart there is downside in coming month.

Dow Jones 15 year chart analysis, shows there will be Lehman like event if key resistance of 12,225 is broken

Tips: You don't open life jacked inside Air plane. Same way play with bear stock as hedging against downfall. S&P500 and Dow had more bullish month then bearish. So buy quality stock.