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The Heartbeat Of The Stock Market Goes Thump at Trader’s Narrative

The Heartbeat Of The Stock Market Goes Thump

Monday’s free falling market finally brought us some indication of real fear in the market. The indicator that got many talking was the S&P 500 Index volatility index (VIX) being pushed higher than what we saw at the last financial crisis in 1998 (when a few PhD’s from Chicago almost took down the world economy with a little hedge fund called LTCM).

I wanted to take a closer look to see that spike in its proper context. So here is a long term chart of the VIX:

volatility index VIX long term chart

Yup, that was an unmistakable panic spike. Higher than what we have seen since going all the way back to the infamous crash of 1987! But to put the volatility into context, lets compare it to its own 50 day moving average:

volatility index VIX long term chart relative 50 d MA

This graph is a ratio of the volatility at any point in time, compared to its 50 day moving average and therefore, shows a more normalized version of volatility. Sometimes the market gets really quiet for a long time, making it easy to miss a rise in absolute volatility because it doesn’t register as high as previous, more “volatile” eras. Using this ratio, we know that today’s volatility is about 48 times “more volatile than normal” (measured over the last 50 days).

So this is emphatically saying that there is enough fear in the market to produce a lasting bottom in the market. But what about the volatility index for the Nasdaq market?

volatility index VXN long term chart

While the VXN has moved significantly higher in recent days it is still not high enough in absolute terms to match previous spike highs. Taking a look at the volatility normalized over the past 50 days:

volatility index VXN long term chart relative 50 MA

Right now the VXN is 80 times as volatile as “normal” - which is high but not as high as we’ve seen this index climb.

If you’re feeling lucky, and have a cast iron stomach for risk, I would suggest it is ok to put some money to work here as long as you don’t use up all your firepower in one go. The market can certain drip or cascade lower. So be ready to not catch the perfect inflection point (as if that is even possible).

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4 Responses to “The Heartbeat Of The Stock Market Goes Thump”  

  1. 1 RA

    Perhaps the restriction on short-selling is pushing up demand for options, and pushing up the VIX (artificially)

  2. 2 Holly

    It’s obvious that this restriction on short selling DIDn’t work–look what happened on Monday; however, it DID interfere the normal market operation, eg. put/call and VIX….so data may not reflect the truth.

  3. 3 pej

    The problem is that the vix data is only going back to the mid 1990’s. No crash occurred since then. That’s the reason I am not selling my puts, even though they are at historically high prices :-)

  4. 4 Drewster

    I agree that VIX has been a great indicator and tool to identify what became, in hindsight, great buying opportunities. We’ve had six VIX spikes above 30 over the last 14 months, and all were great plays for long trades.

    The only thing I would perhaps disagree here is the contention that the VXN, or Nasdaq Volatility Index, needs to go up further to previous levels as established in 2000 and 2001. It’s my opinion that you may not see that happen here and still see a bottom in the making right now (at least on volatility), since the 2000-2001 crash in large part caused by a crash in tech stocks due to their previous huge multi-year rally. The bubble, made up of tech stocks, drove the market to unbelievable heights, so huge volatility once the inevitable crash occurred was to be expected.

    The tech stocks did not drive the latest bubble. They participated, but the recent bull market was driven by real estate and financie. Now, if you could put together a volatility index on the Financial or Real Estate indices, then I bet you’d see huge volatility that might make VXN look tame.

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