Sunday, August 26, 2007

Historic Weekly Drop in VIX; VWSI at +2

Last week I toned down my prose a little by noting “we have almost surely seen a top in volatility” and declaring “there is finally evidence that the laws of gravity have been reinstated, at least temporarily.” At least I didn’t hold back in my forward-looking commentary:
“I suspect most pundits will wait until after Labor Day before declaring that it is safe to go back in the water, but I tend to think that excessive caution will likely result in missing out on the first big leg of a post-panic bounce.”

One week does not mean it is safe to announce the resumption of the bull market, but clearly quite a few big players were caught leaning the wrong way as stocks moved up. Starting with the VIX, we saw a record drop of 30.9% from 29.99 to 20.72. This eclipsed the previous record weekly VIX drop of 28.4%, which came in March 1991, just after the end of the Gulf War. In retrospect, this also turned out to be an excellent time to go long the broad markets and short volatility.

The record drop in the VIX has pushed the volatility indicator into a deeply oversold level on a short-term basis, while it continues to remain overbought on a long-term basis. Check out Ron Sen’s blog, Technically Speaking, for a chart of the VIX relative to its 10 and 200 day SMAs. How does the VWSI sort out this divergence? By siding somewhat with the extremes of the short-term VIX readings, where a reading of 31.6% below the 10 day SMA has only happened three times previously (1/91, 3/91 and 12/98.) The bottom line is a VWSI of +2, which is slightly bullish for the VIX, but technically still neutral enough as to preclude a formal directional recommendation.

In the event I fail to blog about this tomorrow, it is also worth noting that the ISEE is flagging record levels of skepticism as well. Readings for this sentiment indicator have been extremely low for the month of August; and an ISEE of 95 of lower tomorrow will mean a new record in the 20 day SMA for this indicator – and contrarian bullish support for a continued bounce in the markets.

It’s no fun being just another cinder block in the wall of worry…

(Note that in the above temperature gauge, the "bullish" and "bearish" labels apply to the VIX, not to the broader markets, which are usually negatively correlated with the VIX.)

Wine pairing:
For the second week in a row, I find myself happily recommending a classic Spanish varietal. This time around it is albarino, also known as alvarinho in Portugal. Albarino is an excellent summer wine, with a zingy citrus delivery that will remind some of the best of Oregon’s pinot gris. Don’t limit albarino to just one season, though, as it has enough weight and body to be an excellent year round wine, with the high acid content making it an excellent food match. Albarino thrives in Rias Baixas region in northwest Spain. If you find yourself in a chardonnay rut – or even if you don’t – sample whatever your local wine store has to offer. My local wine store has a Burgans Albarino for $10. I am a big fan, as are the folks at winefoolery and elsewhere.

Finally, if you want to have some fun and learn about albarino at the same time, I recommend you watch the upstart Gary Vaynerchuk at Wine Library TV taste four albarinos. (If you really want some over the top wine-related entertainment, watch Gary teach Conan O’Brien how to train his palate.)

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