Thursday, April 26, 2007

Divergence, History and Tells

Some interesting things have been happening in the VIX this week. Yesterday, I recounted how the VIX jumped 8% on Monday while the SPX was almost flat. By the end of the day yesterday, the SPX was up 1% and the VIX, which has generally been strongly negatively correlated with the SPX, was up .6%.

In the upside down world of the VIX, any time the SPX and the VIX are positively correlated, we have a divergence. In this case I think it may be a significant divergence.

First, some quick history: from 1990 through 12/18/03, the SPX gained 1% or more on 480 occasions. Of those 480 occasions, about 12% of the time the VIX was up on that day instead of down. If you have just recently started paying attention to the VIX, as I have, that 12% number may sound high. In fact, since 12/18/03, we have had 57 additional instances of a 1% SPX jump and not one of those rises in the SPX was accompanied by rising VIX – until yesterday.

Now one data point does not necessarily mark a turning point, but it certainly is the bookend to 41 months of a very persistent pattern. In fact, if you calculate the likelihood of a .120 batter going 0 for 56, you will see that it happens less than 0.08% of the time.


Anonymous said...

According to my model as of end of day yesterday the divergence was about 50 SPX points. This has been going on for about a month and a half now. Similar break down of the spx/vix corr was observed last fall when the market rallied. Not a good time if you are short index vol.

Mike said...

Bill, This is a great site - lots of useful stuff on here.

What do you think about the DNDN MAY 15 straddle for 9 bucks. It's a pretty fun lesson in how you can't price binary events with standard volatility models.

Big Doggy

Bill Luby said...

Excellent observatons, guys.

Mike, you should know that I surf (subscribe) to your site to get ideas for the CNBC contest. If you ever decide to focus on options on stocks that announce AMC, you will get one even more interested reader -- at least until this damn contest is over...

Mike said...

I get so wary of making calls on events just because i have some licenses parked at a couple b/ds and don't want to get in trouble with the SEC.

Although, I suppose an implied vol/earnings surprise std dev chart would probably be pretty helpful.

Pretty Impressive results on that portfolio of yours - I think a VaR breakdown of the winners would be awfully interesting

Bill Luby said...

Hi Mike,

FWIW, my comments were made mostly in jest. I get a lot of interesting (and surprisingly timely) info from your site.

As for Portfolio A1, this thing is just a baby so the numbers don't mean anything yet, but I can say that similar predecessor portfolios that now have a 3 year track record have Sortino numbers in the 2.1 to 2.2 range.

I will be glad to put more numbers behind the portfolio when they get a little longer in the tooth and the numbers actually mean something.

As a side note, one of the five holdings, RKT, is up 16+% today on excellent earnings, so the numbers are sure to look even better when I update them this weekend.



Anonymous said...

Do you then intrpret the lift in the vix as being at least short term bearish ? TIA

dk said...

I left the following comments at Adam's this evening, and I'll mention them here as well.

The VIX strength is indeed a good brain puzzler. However, accompanying the VIX strength has been elevated fear levels from the sentiment indicators.

The AAII Bull Ratio came out today, and it fell on a week that saw Dow 13K and decent earnings.

Hulbert's HSNSI index ticked up to 42% from 34%, but that's hardly epic. On Feb 26, it was 62% and the market was 5% lower!

Then there's the Ticker Sense blogger survey which, as you know, is always bearish. It ticked up to "extra" bearish this week.

Obviously, the VIX is not alone in its fear these days. What these highly-choreographed fear levels mean (contrarian bullish?) is another thing altogether.



Bill Luby said...

Anon and dk,

I am not a big believer in the VIX in itself as a reliable predictor or future market moves (future VIX moves, but not broader market moves.) As a result, I think the recent VIX action has at best a very mild bearish component for the broader markets.

I side with dk in the contrarian bullish camp. The ISEE is contrarian bullish (though the CPCE is nautral); short data is slightly contrarian bullish; McClellan/NYSI data looks neutral; the SPX/VIX ratio looks neutral; and the NYHGH/VIX ratio looks mildly contrarian bearish. Overall, I'd say that this is mildly bullish set of indicators.

You can look at, among others, for a broader set of indicators.

Though I like to try to call tops for fun, in practice it usually seems to be less expensive to call them retroactively.



Anonymous said...

I do note that while your statement is perfectly correct, there has been one occasion in the last several years when the S&P was up over 1% and the VIX was unchanged. Back on November 6 of 2006 the S&P was up 1.1% and the VIX was flat, for an equally uncorrelated result. The S&P kept climbing from there.

Anonymous said...

If you like the analogy of today's market environment to 1994-95, then positive correltaion of VIX and SPX is a tell for 1996.

History: the VIX finished bottoming in December 1995 at levels close today's: 13Dec95 VIX = 10.36. It then started a strong secular uptrend that didn't finish topping until March 03.

The SPX had taken off on its own uptrend about a year earlier in January 95 and finshed topping around August 2000. So for four-plus years the trends were clearly headed in the same direction. The daily correlation for the four years 1/1/06-12/31/99 was positive 48%.

So let's party like it's 1996!

Bill Luby said...

I do like the 1994-95 analogy and have talked about some similarities a couple of times, particularly 1994.

In addition to my comments about the positive correlation between the VIX and SPX from last week (a post I just added to my "Archive Highlights"), I also talked a little about this period in my very first post on this blog.

Anonymous said...

I think the mere existence of the VIX options renders historical analysis of the VIX before their existence largely meaningless. The flexibility and multidimensional hedging techniques they afford changes the behavior of the underlying indices. A future on the VIX is now priced differently than it was back when there were no options.

I personally can't figure them out for the life of me, but supposedly there are those who can (or at least have been successful enough to think they have). Regardless, the options have brought about new and different investors with many unique risk management/arbitrage/gambling goals. I don't know whether right now it is under, over, or fairly priced but I know that the market around the VIX is radically different than it was even two years ago.

Bill Luby said...

Excellent points, JP. For those playing at home, VIX futures entered the fray on 3/26/04 (coincidence vis-a-vis the 0-56?) and VIX options were added on 2/24/06.

As an aside, I completely agree on Biden and been have a fan of his style since the early 80's.

zerobeta said...


Yeah I mean the VIX has nose-dived since derivative products have been introduced. The availability of hedging instruments does not mean the underlying must be lower though. There are plenty of hedging instruments for stocks and those have done quite well recently.

It would be interesting to look at the similarities between VIX derivative products and Mortgage backed assets and the Sub-Prime Loan situation. The banks repackaged debt in CMO's and CDO's in order to spread out risk. In turn they did not have the incentive for any underwriting discipline. What about hedge funds who believe they have the ability to hedge some systematic risk though Vix derivatives? Have they invested in poor equity risk? The same could be said for CDO's, commodity futures, swaps, etc, etc. Just a thought.

Thanks for the feedback on the blog. I'm just getting it up and appreciate it. I really enjoy your site and I have learned a great deal from it. Keep it up.

Bill Luby said...

FWIW, Fred Ruffy at Optionetics weighs in on the current state of the sentiment indicators in SENTIMENT JOURNAL: Bearish Divergence?

the mill said...

this is some freaky shit. I ust googled for VIX divergence because I saw one for the firs time today (when bothe the VIX and the S&P is rising. And today is april 26.2010 (exacly three years after you noticed it the first time)

DISCLAIMER: "VIX®" is a trademark of Chicago Board Options Exchange, Incorporated. Chicago Board Options Exchange, Incorporated is not affiliated with this website or this website's owner's or operators. CBOE assumes no responsibility for the accuracy or completeness or any other aspect of any content posted on this website by its operator or any third party. All content on this site is provided for informational and entertainment purposes only and is not intended as advice to buy or sell any securities. Stocks are difficult to trade; options are even harder. When it comes to VIX derivatives, don't fall into the trap of thinking that just because you can ride a horse, you can ride an alligator. Please do your own homework and accept full responsibility for any investment decisions you make. No content on this site can be used for commercial purposes without the prior written permission of the author. Copyright © 2007-2023 Bill Luby. All rights reserved.
Web Analytics