Are We Going To Have Lower Volatility?

Apr. 13, 2021 2:09 PM ETVXX, UVXY, VIXY, SVXY, ZIV, VIXM, VXZ, VIIX, XVZ1 Comment
David Kotok profile picture
David Kotok
2.1K Followers

Summary

  • The US stock market kicked off the second quarter with new all-time highs above 4,000 on the S&P 500.
  • The correlation between VIX and SKEW is -0.16, indicating opposite movements in the two indices.
  • SKEW Index has closed above 140 for 49 out of the past 76 sessions since mid-December.

By Leo Chen,

The US stock market kicked off the second quarter with new all-time highs above 4,000 on the S&P 500. Meanwhile, the volatility index, VIX, has closed below 20 for five consecutive days for the first time in 13 months. With the strong rally in the equity market, is this the beginning of the VIX's returning to the lower bound, as we had before the COVID selloff?

To put everything in perspective, Table 1 shows the summary statistics of VIX. The average of the VIX since 1990 has been 19.50. As the percentile table shows, VIX is unevenly distributed towards the lower half, with the 50th percentile being 17.55. However, VIX has averaged 29.62 since March 2020. That's above the 90th percentile (28.90) - an extremely high average for any rolling 13 months. Since this extreme level is unlikely to be sustainable for a prolonged period, we can expect the VIX to pull back this year. But does this mean VIX will stay low? Let's take a look from a different perspective.

CBOE provides a tail-risk index, SKEW. Like the VIX, it measures the potential risk in the S&P 500, with a focus on so-called "black swan" event. You may find our previous commentary discussing an anomaly in SKEW here. SKEW's historical average has been 120.13 since 1990. The rule of thumb is that readings above 140 imply high tail risk - less than 3% of SKEW daily prices have been above 140 in the past 3 decades.

Chart 1 compares the VIX and SKEW for the past 7 years. The correlation between VIX and SKEW is -0.16, indicating opposite movements in the two indices. But we find that, since 2014, VIX has jumped more than 50%, to a level above 20 at least, each time SKEW had a run above 140. This is a significant implication from the tail-risk index. Although the market does not necessarily need to fall sharply when SKEW rises to an extremity, it does appear that market agents are hedging against potentially big losses when SKEW spikes. This response may make the market subject to high volatility and downside risk. Understandably, we may see a fast-rising VIX after a spike in SKEW.

Note that the SKEW index has closed above 140 for 49 out of the past 76 sessions since mid-December. This has been the longest 140+ run in SKEW's history. Hence, even though the VIX appears to be trying to return to its normal level below 20, we should still be prepared for VIX to rise back into the 20s or even the 30s this year.

*Data from Bloomberg.

Original Post

Editor's Note: The summary bullets for this article were chosen by Seeking Alpha editors.

This article was written by

David Kotok profile picture
2.1K Followers
David Kotok co-founded Cumberland Advisors in 1973 and has been its Chief Investment Officer since inception. David’s articles and financial market commentaries have appeared in The New York Times, The Wall Street Journal, Barron’s, and other publications. He is a frequent contributor to Bloomberg TV and Bloomberg Radio, Yahoo Finance TV, and other media. He has authored or co-authored four books, including the second edition of From Bear to Bull with ETFs and Adventures in Muniland. He holds a B.S. in economics from The Wharton School of the University of Pennsylvania, an M.S. in organizational dynamics from The School of Arts and Sciences at the University of Pennsylvania, and an M.A. in philosophy from the University of Pennsylvania.David has served as Program Chairman and currently serves as a Director of the Global Interdependence Center (GIC), www.interdependence.org, whose mission is to encourage the expansion of global dialogue and free trade in order to improve cooperation and understanding among nation states, with the goal of reducing international conflicts and improving worldwide living standards. David chaired its Central Banking Series and organized a five-continent dialogue held in Cape Town, Hong Kong, Hanoi, Milan, Paris, Philadelphia, Prague, Rome, Santiago, Shanghai, Singapore, Tallinn, and Zambia (Livingstone). He has received the Global Citizen Award from GIC for his efforts. David is a member of the National Business Economics Issues Council (NBEIC), the National Association for Business Economics (NABE), has served on the Research Advisory Board of BCA Research and is currently on the advisory board of RiskBridge Advisors. He has also served as a Commissioner of the Delaware River Port Authority (DRPA) and on the Treasury Transition Teams for New Jersey Governors Kean and Whitman. Additionally, he has served as a board member of the New Jersey Economic Development Authority and as Chairman of the New Jersey Casino Reinvestment Development Authority.

Recommended For You

Comments (1)

To ensure this doesn’t happen in the future, please enable Javascript and cookies in your browser.
Is this happening to you frequently? Please report it on our feedback forum.
If you have an ad-blocker enabled you may be blocked from proceeding. Please disable your ad-blocker and refresh.