Options and futures based on VIX products are available for trading on CBOE and CFE platforms, respectively. You might consider shifting some of your portfolio to assets thought to be less risky, like bonds or money market funds. Alternatively, you could adjust your asset allocation to cash in recent gains and set aside funds during a down market.
- When the stock markets appear relatively calm but the VIX index spikes higher, professionals are betting that prices on the S&P 500—and thereby the stock market as a whole—may be moving higher or lower in the near term.
- Miranda is completing her MBA and lives in Idaho, where she enjoys spending time with her son playing board games, travel and the outdoors.
- Before investing in any VIX exchange-traded products, you should understand some of the issues that can come with them.
- The VIX index tracks the tendency of the S&P 500 to move away from and then revert to the mean.
- The CBOE Volatility Index (VIX) is a real-time index that represents the market’s expectations for the relative strength of near-term price changes of the S&P 500 Index (SPX).
This process involves computing various statistical numbers, like mean (average), variance, and finally, the standard deviation on the historical price data sets. Perhaps the most straightforward way to invest in the VIX is with exchange-traded funds (ETFs) and exchange-traded notes (ETNs) based on VIX futures. As exchange-traded products, you can buy and sell these securities like stocks, greatly simplifying your VIX investing strategy. It’s important to note here that while volatility can have negative connotations, like greater risk, more stress, deeper uncertainty or bigger market declines, volatility itself is a neutral term.
The VIX Volatility Index
Greater volatility means that an index or security is seeing bigger price changes—higher or lower—over shorter periods of time. However, the VIX can be traded through futures contracts and exchange traded funds (ETFs) and exchange traded notes (ETNs) that own these futures contracts. The VIX has paved the way for using volatility as a tradable asset, albeit through derivative products. CBOE launched the first VIX-based exchange-traded futures contract in March 2004, followed by the launch of VIX options in February 2006. VIX values are calculated using the CBOE-traded standard SPX options, which expire on the third Friday of each month, and the weekly SPX options, which expire on all other Fridays. Only SPX options are considered whose expiry period lies within more than 23 days and less than 37 days.
On the other hand, during times when the VIX is falling, indicating the possibility of more stability to come in the stock market, it might make more sense to focus on individual stocks or other riskier assets that might fare well during times of growth. Before investing in any VIX exchange-traded products, you should understand some of the issues that can come with them. Certain VIX-based ETNs and ETFs have less liquidity than you’d expect from more familiar exchange traded securities. ETNs in particular can be less liquid and more difficult to trade as well as may carry higher fees.
Miranda Marquit has been covering personal finance, investing and business topics for almost 15 years. She has contributed to numerous outlets, including NPR, Marketwatch, U.S. News & World Report and HuffPost. Miranda is completing her MBA and lives in Idaho, where she enjoys spending time with her son playing board games, travel and the outdoors.
Traders making bets through options of such high beta stocks utilize the VIX volatility values in appropriate proportion to correctly price their options trades. Just keep in mind that with investing, there’s no way to predict future stock market performance or time the market. The VIX is merely a suggestion, and it’s been proven to be wrong about the future direction of markets nearly as often as it’s been right. That’s why most everyday investors are best served by regularly investing in diversified, low-cost index funds and letting dollar-cost averaging smooth out any pricing swings over the long term. One of the most popular and accessible of these is the ProShares VIX Short-Term Futures ETF (VIXY), which is based on VIX futures contracts with a 30-day maturity. Some exchange-traded securities let you speculate on implied volatility up to six months in the future, such as the iPath S&P 500 VIX Mid-Term Futures ETN (VXZ), which invests in VIX futures with four- to seven-month maturities.
Market professionals rely on a wide variety of data sources and tools to stay on top of the market. The VIX is one the main indicators for understanding when the market is possibly headed for a big move up or down or when it may be ready to quiet down after a period of volatility. In finance, mean reversion is a key principle that suggests asset prices generally remain close to their long-term averages. If prices gain a great deal very quickly, or fall very far, very rapidly, the principle of mean reversion suggests they should snap back to their long-term average before long. Generally speaking, if the VIX index is at 12 or lower, the market is considered to be in a period of low volatility. When you see the VIX above 30, that’s sometimes viewed as an indication that markets are very unsettled.
When the VIX declines, investors are betting there will be smaller price moves up or down in the S&P 500, which implies calmer markets and less uncertainty. As a rule of thumb, VIX values greater than 30 are generally linked to large volatility resulting from increased uncertainty, risk, and investors’ fear. There are a range of different securities based on the CBOE Volatility Index that provide investors with exposure to the VIX. The first method is based on historical volatility, using statistical calculations on previous prices over a specific time period.
The index is more commonly known by its ticker symbol and is often referred to simply as “the VIX.” It was created by the CBOE Options Exchange and is maintained by CBOE Global Markets. It is an important index in the world of trading and investment because it provides a quantifiable measure of market risk and investors’ sentiments. During its origin in 1993, VIX was calculated as a weighted measure of the implied volatility of eight S&P 100 at-the-money put and call options, when the derivatives market had limited activity and was in its growing stages. The second method, which the VIX uses, involves inferring its value as implied by options prices. Options are derivative instruments whose price depends upon the probability of a particular stock’s current price moving enough to reach a particular level (called the strike price or exercise price).
Following the popularity of the VIX, the CBOE now offers several other variants for measuring broad market volatility. Examples include the CBOE Short-Term Volatility Index (VIX9D), which reflects the nine-day expected volatility of the S&P 500 Index; the CBOE S&P Month Volatility Index (VIX3M); and the CBOE S&P Month Volatility Index (VIX6M). Products based on other market indexes include the Nasdaq-100 Volatility Index (VXN); the CBOE DJIA Volatility Index (VXD); and the CBOE Russell 2000 Volatility Index (RVX). As the derivatives markets matured, 10 years later, in 2003, the CBOE teamed up with Goldman Sachs and updated the methodology to calculate VIX differently. It then started using a wider set of options based on the broader S&P 500 Index, an expansion that allows for a more accurate view of investors’ expectations of future market volatility.
Does the Level of the VIX Affect Option Premiums and Prices?
A methodology was adopted that remains in effect and is also used for calculating various other variants of the volatility index. The VIX was the first benchmark index introduced by CCOE to measure the market’s expectation of future volatility. For people watching the VIX index, https://www.wallstreetacademy.net/ it’s understood that the S&P 500 stands in for “the stock market” or “the market” as a whole. When the VIX index moves higher, this reflects the fact that professional investors are responding to more price volatility in the S&P 500 in particular and markets more generally.
Volatility, or how fast prices change, is often seen as a way to gauge market sentiment, and in particular the degree of fear among market participants. The VIX index tracks the tendency of the S&P 500 to move away from and then revert to the mean. When the stock markets appear relatively calm but the VIX index spikes higher, professionals are betting that prices on the S&P 500—and thereby the stock market as a whole—may be moving higher or lower in the near term.
VIX Volatility Index – Historical Chart
Market participants have used VIX futures and options to capitalize on this general difference between expected (implied) and realized (actual) volatility, and other types of volatility arbitrage strategies. The VIX, formally known as the Chicago Board Options Exchange (CBOE) Volatility Index, measures how much volatility professional investors think the S&P 500 index will experience over the next 30 days. Market professionals refer to this as “implied volatility”—implied because the VIX tracks the options market, where traders make bets about the future performance of different securities and market indices, such as the S&P 500.
Prices are weighted to gauge whether investors believe the S&P 500 index will be gaining ground or losing value over the near term. Over long periods, index options have tended to price in slightly more uncertainty than the market ultimately realizes. Specifically, the expected volatility implied by SPX option prices tends to trade at a premium relative to subsequent realized volatility in the S&P 500 Index.
CBOE Volatility Index (VIX): What Does It Measure in Investing?
The VIX attempts to measure the magnitude of price movements of the S&P 500 (i.e., its volatility). The more dramatic the price swings are in the index, the higher the level of volatility, and vice versa. In addition to being an index to measure volatility, traders can also trade VIX futures, options, and ETFs to hedge or speculate on volatility changes in the index. The CBOE Volatility Index (VIX) is a real-time index that represents the market’s expectations for the relative strength of near-term price changes of the S&P 500 Index (SPX). Because it is derived from the prices of SPX index options with near-term expiration dates, it generates a 30-day forward projection of volatility.
When the VIX moves lower, investors may view this as a sign the index is reverting to the mean, with the period of greater volatility soon to end. Alternatively, VIX options may provide similar means to position a portfolio for potential increases or decreases in anticipated volatility. Downside risk can be adequately hedged by buying put options, the price of which depend on market volatility. Astute investors tend to buy options when the VIX is relatively low and put premiums are cheap. Such protective puts will generally get expensive when the market is sliding; therefore, like insurance, it’s best to buy them when the need for such protection is not obvious (i.e., when investors perceive the risk of market downside to be low).