Which Gravity?

In my seemingly never ending quest to litter this space with obscure and occasionally relevant VIX trivia, I have today come across some numbers that I find particularly interesting.

First, let me point out that the VWSI is currently back to reading an even zero, with neither a bullish nor bearish bias. Part of the reason for this neutral reading is the current deadlock in the gravitational tug of war between short-term and long-term mean reversion. Not only that, but in the 17 year history of the VIX, the current 15% under the 10 day SMA and 43% over the 100 day SMA is the largest ever divergence between these two indicators. The question, of course, is whether the gravitational pull of the 10 day SMA (not pictured) will win out over that of the 100 day SMA – or even whether one mean reversion magnet will get the upper hand going forward.

For market historians, there are two instances of possible historical precedent which may be of interest.

In the end of July 2002, we had the largest previous divergence, with the VIX 17% under the 10 day SMA and 32% over the 100 day SMA. This set of circumstances followed the WorldCom bankruptcy filing and came close to signaling the bottom of the 2000-2002 bear market. In fact, in the days leading up to this divergence, the VIX fluctuated wildly to a peak of 48, then dropped to 31 just three days later. Within a week following the maximum divergence, the VIX was back over 45 again; and it remained elevated over the course of the next two months as the markets finally confirmed a bottom.

There is some similar historical precedent in the wake of 9/11, during which period the VIX hit 49, then dropped to 31 five days later, resulting in a VIX 16% under the 10 day SMA and 33% over the 100 day SMA. What followed was a temporary market bottom and VIX readings that went sideways for about five weeks, then began to subside for about nine months, before the July 2002 craziness noted above kicked in.

I am not sure what to conclude, if anything, about the historic divergence at present, other than it is the almost inevitable residue of an unprecedented VIX spike. In a few weeks we will all know whether the liquidity/credit crunch has swallowed up one or more of our trusted financial institutions or, as is usually the case, if investor fears just got a little too far ahead of the reality.