How Long Can Stocks Ignore Spiking Oil Volatility?

The CBOE Crude Oil Volatility Index (OVX) is lingering near record levels versus the CBOE Volatility Index (VIX)

Adam Warner

Dec 4, 2014 at 10:06 AM

There is lots of chatter lately about the drop in crude prices and the pop in volatility of said crude prices. Obviously, there are plusses and minuses associated with the moves. On the positive side -- more money in everyone's pockets! On the downside -- well, volatility rarely confines itself to one asset class. But how alarming is this lift?

Well, let's take a look at some charts. Here's CBOE Crude Oil Volatility Index (OVX), which measures implied volatility in crude. It has had quite the pop in 2014. (Click on the charts below to enlarge.)

OVX started 2014 at about 18, and then meandered between 14 and 20 until the end of September. And then it exploded, more than doubling to the high 30s level we see now. But, by historical standards, crude volatility isn't all that exceptional. Here's OVX as far back as I can chart it -- mid-2008.

Yes, oil volatility did spike above 100 back in 2008 -- and we thought that was all about the financials. So, the spike we've seen the last two month's is no big deal, right? Well, "not so fast," as noted volatility expert Lee Corso might say.

Here's OVX versus the CBOE Volatility Index (VIX) itself, going back to 2008:

Putting the OVX into VIX context sure makes this move look more impressive. OVX hit its lowest level ever versus VIX back in February. The two measures were almost equal. It approached those lows in April, and again in August. And then, in three short months, OVX spiked to its all-time high versus VIX.

So, through this lens, what we're seeing in oil volatility is fairly unprecedented. We generally assume a volatility measure itself will mean revert, but how about a ratio of volatility measures?

Well, that's less clear. But, for what it's worth, OVX has averaged about 1.6 times VIX over this time frame. If we declare VIX "fair" at about 13, that suggests OVX eventually drifts back to the low 20s. But, what if OVX remains high? Will VIX climb into the low 20s? That would sure make all those long VIX futures players happy.

Most likely this all resolves somewhere in the middle, with OVX in the mid to low 20s and VIX in the mid-teens. I doubt general equity volatility can ignore spiking oil volatility forever.

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

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