Has the Volatility Spike Run Its Course?

Are we due for one last pullback before the ugliness runs its course?

by Adam Warner

Published on Oct 12, 2015 at 10:20 AM

Time to party like its 1998? How about 2011? 

By that I mean, are we going to stick to the market script of those two years? Both saw very ugly August swoons in the midst of otherwise strong markets. And both recovered within a few months and resumed the longer-term uptrend. 

Too soon to tell right now. But clearly we're on much better footing now at "recovery" highs. So maybe it's time to revisit some charts and sentiment numbers we've watched during the "correction" (or whatever you want to call it). 

The CBOE Volatility Index (VIX) is back down near 17, the lowest close since Aug. 19, just before the swoon. VIX closed at 15.25 that day, then soared to 19.14 on Aug. 20, on the way up to a 40.74 close on Aug. 24.

VIX futures do, we (hopefully) know, lag a bit on moves. Even though VIX now is 2 points lower than it was on Aug. 20, VIX futures are a bit higher than they were back then. 

151012Warner1

You have a couple of things going on here. Back in August, no one knew, of course, the VIX was about to double in the next two sessions and that (more importantly) high volatility would persist for another month or so. Now it's a bit of the reverse. The curve looks very normal: solid upslope and all at a premium to VIX itself. Remember, though, that "normal" in VIX world means overpricing the odds of a vol spike out in time. It's not a huge premium, but there's no particular reason to expect VIX to basically start trending higher right now. That's not a market call, just a near-term vol call. 

As I noted the other day, I do expect longer-term to see it nudge higher, but shorter term I kind of think this particular vol spike ran its course. 

CNN's Fear and Greed Index is starting to look a lot less fearful:

 

151012Warner2

  

We were down to single digits not that long ago! Breadth, or lack thereof, was a huge concern not that long ago. Now? It's actually flipped to greed. 

The McClellan Volume Summation Index measures advancing and declining volume on the NYSE. During the last month, approximately 19.73% more of each day's volume has traded in advancing issues than in declining issues, pushing this indicator towards the upper end of its range for the last two years. 

That's consistent with the general recovery in individual names. Here's an updated chart of the percent of S&P 500 Index (SPX) names trading above their respective 200-day moving averages (MAs). 

151012Warner3 

History never exactly repeats … but the pattern here looks just like 2011 so far. That's good and bad, though, as it suggests we get one last blast down before the ugliness runs its course.

There are technicians way more qualified than yours truly, but here are my two cents (a.k.a, a statement of the obvious): We're getting close to the 205-206 level in SPDR S&P 500 ETF Trust (SPY), which is both our breakdown spot and the location of the 200-day MA that we slammed through as we broke. It's very unlikely we just fly through that without another downside test of some sort. Yes, I sound like a telepundit as I say we go both lower and higher! I'll guess lower first, though.

Disclaimer: Mr. Warner's opinions expressed above do not necessarily represent the views of Schaeffer's Investment Research.


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