Sunday, July 22, 2007

VWSI at Zero, While VIX Rises to 16.95

With its 16.95 close this week, up 1.80 or 11.9%, the VIX is now perched on its highest end of week close since the week of February 27th.

The VWSI apparently does not believe that the VIX is unusually high, as the zero reading in the VWSI indicates a neutral bias for the next week or two, lending support to my contention earlier this week that “15.00 now looks suspiciously like a floor” in the VIX and “we are entering a new era of increasing volatility.”

Historians may wish to note that not since the middle of May 2004 has there been a VWSI of zero when the VIX stood at 16.95 or higher. During this period, India’s stock market had its worst drop in 129 years over concerns about the role of communists in a new government, oil prices rose over $40 for the first time in 13 years, conflict between Israelis and Palestinians was intensified, and Abu Ghraib was the headline story in the Iraq war.

Is 15 the new 10? In the coming week or two, I will delve into some possible repercussions of an elevated VIX. In the meantime, consider that from the current level, we no longer need such big percentage moves to see a VIX in the low to mid-20s.

(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 an inexpensive Rhone blend, I continue to recommend: Oakley Five Reds; Robert Hall’s Rhone de Robles and Tablas Creek’s Cote de Tablas Blanc; Wrongo Dongo, the contrarian favorite from Spain; and The Stump Jump (I prefer the white over the red) from Australia. If you are looking for additional ideas, I encourage you check out the Rhone Rangers.


dk said...

Good post, and the May 2004 comparison was really interesting. Your notion of 15 as the new 10 is an important one, and my anecdotal observation is that the equity market functions better with "higher" volatility.

Tim Knight feels that the new VIX range is a subprime plateau, though the evidence points to a more complex set of reasons than just structured credit. As we all remember, the initial late-Feb spasm was the Shanghai surprise.

Question: when you describe "reversion to mean", what is the VIX mean level you have in mind? I know you've gone over this, so apologies/thanks in advance...

Anonymous said...

Your VWSI indicator seems interesting. I concur with your assessment that we are facing a higher vol range going forward which is certainly supported by the changes in vix term structure. In practice, we are now sitting on a higher mean and any reversion to the mean entries must be considered in this context.

Keep up the good work.

Bill Luby said...

Hi dk,

Yes, I liked that Tim Knight chart, regardless of what is actually propping up the floor.

With respect to a VIX "reversion to the mean" -- I typically am most focused on the 10 day SMA, regardless of the absolute level of the VIX. I also put a fair amount of stock in the 20 day SMA -- more than most others, I think. My VWSI mean reversion formula looks back as far as a 100 day SMA, but does not weight that time frame as heavily as some other time frames in the 1-4 week range.

At the moment, I find the more interesting question to be what sort of weekly/monthly/quarterly/yearly reversion to the mean there might be. The last time I looked at this, I decided it wasn't worth additional time and effort, but now I'm going back to this issue with a fresh perspective.

As you hint at, there is also a question about a reversion to an absolute level of the VIX rather than just a relative level. That's another open issue with me -- at least at the moment.


Thanks for the kind words and encouragement.

That current/recent 15-19 VIX range is a key point about mean reversion. Among other things, a VIX of 13-14 may now bring in a flood of VIX call buyers, while a VIX of 20 may not bring in the knee-jerk fade the VIX 'spike' crowd that it would have a month or two ago.

Things look more than a little different to me right now.

Cheers and good trading to both of you,


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