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The recent pop in the VIX is more than likely just a blip
It seems like only yesterday I was agreeing with The Oracle of CBOE Volatility Index (VIX) that volatility would remain low. Actually, it was two days ago. And I stand by my call, facts on the ground notwithstanding!
Let me just add in hindsight that I should include a caveat to any volatility opinion I make. I only deign to predict intermediate-term and longer-term trends. I can't predict VIX-fires. Having said that, there's no way in the world I expected said VIX-fire to erupt this week. So, I would say now that I do not believe this is anything more than a blip -- and we resume our meandering ways fairly soon, if we haven't already.
Make no mistake, though, that was a real pop. VIX lifted 35% from Friday's close to very early in the Tuesday trade. It shot more than 20% above its 10-day simple moving average (SMA) -- the marker I use to declare VIX "officially" overbought on a closing basis. Alas, it didn't close high enough, so no signal just yet.
This was all in a backdrop of very low realized volatility. Not to mention that it only took a SPDR S&P 500 ETF Trust (SPY) drop of about 1.5% to push VIX into overbought territory.
On average, VIX moves about six or seven times the SPY move. In other words, it "should" pop 6-7% per a 1% drop in SPY. The reality is that it's not a linear relationship -- it's more exponential. So, maybe a 1% SPY drop should beget a 10-15% VIX pop. Anecdotally, that sounds about right.
This move pretty much doubled that expected relationship. What's more, VIX shooting to overbought so quickly is pretty excessive. Let's flash back all the way to … a few months ago. SPY hit a closing high of 201.82 on Sept. 18. VIX closed at 12.03 that day. It didn't close more than 20% above its 10-day SMA until Oct. 10 -- a full 15 trading days later. SPY had dropped to 190.54, about a 5% dip, while VIX closed at 21.24, a 76% lift. That's about a 15:1 ratio, which again, sounds in line with other VIX-plosions.
There's no such thing as fair value in VIX. It has a median reading of 18.45 since inception, and 17.52 since mid-2009. So, we're neither high in the forever term nor even in the intermediate term low VIX "Regime". But, we got high versus realized volatility, the time of year (December is not a typically volatile month), and its own recent self.
Perhaps the options market is smart. That's a base assumption in many parts. Volatility popped because something is about to happen (beyond Greece -- that story has come and gone so often in the past few years, it's tough to assign it much weight). Or, more likely, it was an over-reaction and over-bearishness because the market itself has done so well and that can't go on forever.
Disclaimer: Mr. Warner's opinions expressed above do not necessarily represent the views of Schaeffer's Investment Research.