Monday, March 2, 2009

Three Fear Indicators (or…The Three Baritones)

While the VIX gets most of the media attention as a fear indicator, its usefulness is clearly much better for volatility related to U.S. equities than it is for other asset classes and economic threats.

The TED spread received considerable acclaim in 2008 as measure of liquidity and a reasonable proxy for counterparty risk. Of course gold had been around the longest of all and has served as a barometer of risk for all types of investments and other risks for centuries.

In the chart below, I have overlain the VIX, TED spread and gold against a backdrop of a declining SPX for the past year. Note that the TED spread peaks first among the three, during the second week in October, and subsides rather quickly, as liquidity issues recede to the background. The VIX is next to peak, but it too begins to head down toward the end of November as fears of systemic meltdown slowly begin to subside.

The most interesting line on the chart is that price of gold, which actually bottomed in mid-November and has risen sharply over the past three months, partly as a safe haven for panicky investors, but also as a hedge against the risk of inflation due to various fiscal policy approaches that governments are taking in order to rejuvenate the economy.

In summary, the TED spread has retraced its entire September-October spike, the VIX has retraced about half of its September-November spike, and gold appears to have paused after retracing about 20% of its November-February move. The TED spread and the VIX look like old news at the moment, with the possibility that gold may be the best fear indicator for current market conditions.

[source: StockCharts]


Anonymous said...

look at the USD chart

Anonymous said...

Gold is not a fear indicator, it's money. The rise in the price of gold is a manifestation of the fall in the value of fiat currencies. Nimble traders can play either side, but over the long term gold will continue to rise as governments continue to treat their currencies as a political tool.

Anonymous said...

Looks like you got your 1.08 close on the VIX/VXV ratio.


Anonymous said...

This comment is more along the lines of "how many angels can dance on a pinhead".....

IMO, my never-provable theory as to the lack of $VIX jumpiness in yesterday's market, despite the big drop is by definition, if your still long the stock market right now you're basically believe that this is the bottom (or close enough to the bottom to stomach the 4%+ drop).

Ergo, you're not really hedging cuz this really, really is the bottom.

I believe the $VIX will rechallenge its old highs if the bottom-callers start throwing in the towel.

As always, YMMV.

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