Stocks quoted in this article:
The market has had better weeks. It's also had worse weeks -- many of them.
The SPDR S&P 500 ETF Trust (SPY) dipped 1.9% last week, which wouldn't exactly register on the radar of Big, Scary Declines. More like garden-variety ugly. It did serve to eliminate all gains we've seen in SPY in 2014 so far, and I mean literally. SPY ended 2013 at 184.69, and closed Friday at 184.66.
If it seems that a basically churning market has begat a spike in fear, well, that's because it has begat a spike in fear.
A 2% drop in the market should lead to about a 12%-15% lift in the CBOE Market Volatility Index (VIX). In reality, VIX lifted 26%, so pretty much double the expectation. Now, there's nothing extraordinary about that; the 12%-15% number is just an average of the relationship of SPY to VIX over forever. It's perfectly normal to deviate from that, especially in declines as fear expands. But a pop that big on a market that really didn't move that much, and hasn't moved at all net-net on the year? That's a bit noteworthy.
It's worth noting also that VIX ended 2013 at 13.72, so it's up almost 30% in 2014 in an unchanged market. That could be explained by either a spike in realized volatility or an anticipation of big moves in the future. It's most certainly the latter. No one can find Crimea or Ukraine on a map, or explain why developments there are going to crush the markets. They just know that they will. Not to mention that China's economic slowdown and sluggish growth in developing countries (thanks to our tapering) will doom us all too … something like that!
I use VIX closing 20% above its 10-day simple moving average (SMA) as my proxy for "overbought." We actually got there on Friday intraday, but closed "only" 19% above. There's nothing magical about 20% -- it's best viewed as a continuum. We're most certainly overbought in VIX -- that last little nudge about the 20% level doesn't change the picture much, it's just the criteria I use when I update the tables I run.
Like this one, which shows SPY returns since 2010, one month and three months out, if you bought SPY on the first day that VIX closed 20% above its 10-day SMA.
It's become roughly a quarterly occurrence. If it happens today, or this week, it will be under two months since the last overbought VIX signal (ergo, no three-month returns yet on the last pop).
As you can see on the chart, buying the market and holding for a month has worked well. In the last year-plus: six straight wins on both the one-month and three-month windows!
And it's also not unusual to see VIX pops roughly two months apart. In fact, it happened in February, April, and June in 2013. So perhaps we're on a January-March-May fear cycle this year.
"It only ends once … Everything else is progress." -- Lost
Disclaimer: Mr. Warner's opinions expressed above do not necessarily represent the views of Schaeffer's Investment Research.