Interesting Observation on the Recent VIX Move

Jul 6, 2010: 10:26 AM CST

Traders who monitor volatility, particularly in regard to option trading strategies, closely monitor the VIX – Volatility Index.

Others watch the VIX to get a gauge on fear of market participants.

Either way, if you look closely at the recent move in the VIX – you’ll find something quite interesting:  A clean divergence between the recent S&P 500 low and the daily VIX.

Let’s see it:

The candle chart shows the VIX and then the line chart underneath shows the S&P 500.

I’ve drawn highlights to indicate the VIX Low (which occurred just before the April top),

VIX high which formed on the retest of the “Flash Crash” low at the 1,075 SP level, and

the recent S&P 500 low of 1,010, which shows a much lower VIX than on the prior swing low in stocks.

The fact that the VIX is not making new highs when the market is making new 2010 lows is somewhat of a an interesting development for stocks.

On one hand, the divergence suggests that traders are less fearful now – at new 2010 lows – than they were in May during the Flash Crash and second retest of the lows.  That’s bullish.

The March 2009 lows also ended on a similar VIX divergence with stock prices (VIX not making new highs while the S&P 500 made new lows – the VIX highs were during October 2008).

On the other hand, it suggests that traders may be desensitizing to the ‘bad news’ out there, and acclimating to the likelihood of lower index prices ahead (see update below).  That’s bearish.

Bill Luby of VIX and More posted last Wednesday on this development in an article:  VIX Showing Signs of Progressive Desensitization.

He states that:

“The increasing sluggishness in the VIX reflects what I call a progressive desensitization to fundamental factors and technical factors (the breaching of support at SPX 1040) that investors experience after the novelty of various threats – including very serious ones – begins to wear off.”

and concludes:

“… in terms of implications, this means that once investors have become somewhat accustomed to a declining market, it will be more problematic to rely on the VIX spiking to a new high as a signal for a market bottom.”

Adam Warner of Daily Options Report also posted this morning a conversation he had with Bill Luby on the decline in the VIX – definitely worth a read:  “Impromptu VIX Talk“.

Corey Rosenbloom, CMT
Afraid to Trade.com

Follow Corey on Twitter:  http://twitter.com/afraidtotrade

5 Comments

5 Responses to “Interesting Observation on the Recent VIX Move”

  1. Jordi Perez Says:

    Bottoms are made when fear peaks. Lower VIX signals complacency, which probably means we will see lower levels.

  2. Ghewitt1967 Says:

    Corey- The day that the divergence started I got a notice on my trading platform that they had increased the margin requirements for trading the VIX and other volatility ETF's. I think that was the reason for the divergence.

  3. terlyn Says:

    There is still that June 29th gap that could fill.

  4. Gudsall Says:

    hi corey – could you pleas eprovide your analysis on Crude and sugar.

    Thanks
    Bhupesh Gupta

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