Bill Luby at the VIX and More blog posted a three-part resource and his thoughts regarding how to use the Volatility Index as a market timing tool.
Specifically, he discusses how he uses its readings to trade the S&P 500 exchange traded fund SPY.Â His concluding thoughts caught my attention:
“…I have increasingly become convinced of its applicability in this area [the VIX's use as a market timing tool].”
You may also find it useful if you trade options along side ETFs and stocks, as knowing how to analyze the volatility index properly indicates to you how ‘fairly’ options pricing currently exists – essentially when there is greater ‘fear’ in the overall market (as evidenced by rampant put buying), options premiums will rise accordingly.
Some traders use strategies to sell specific options or spreads when fear (volatility) is high because they assume volatility cannot stay elevated, and it should reverse at least to normal or a bit below normal (in which case, it will be advantageous to execute option buying positions).Â This also is a method that can be devised to be relatively ‘delta neutral’ if executed properly.
Many people have said it before and I agree:Â It is far easier to predict volatility (cycles) than it is to predict market/stock direction.
Either way you feel, it always helps to check on the most recent trend of the VIX to see what the majority of traders are ‘betting’ on a large scale.