Is it time we banned the CBOE Volatility Index (VIX)?
No, not the trading VIX products; they’re more a symptom of the disease. Or, if you’re a “Lost Boys” fan, they’re like Kiefer Sutherland and his vampire friends. You need to knock off the head. In this case, the VIX itself.
Have I gone mad? No. Hear me out.
The CBOE introduced the VIX in 1993, for the ostensible purpose of quantifying market volatility. Volatility, we know, is a sentiment indicator, so the introduction of the VIX provided an easy-to-read view of the market’s temperature. If you were immersed in the options trading biz, frankly, you didn’t need it; you have a board full of options with fluctuating volatility to tell you the temperature.
I spent the entirety of the ’90s as an AMEX market maker, and could probably count on one hand the number of times we used the word VIX. And I knew the implied volatility of the indices in general, even though I didn’t trade them at the time.
It just didn’t matter if you knew the volatility of anything to the penny. You knew when volatility spiked, you knew when it caved, and you didn’t need a specific snapshot of a number of one time frame on one index to quantify it for you.
In the last decade though, the entire world has become a VIX expert. It has gotten massive airtime, massive print time, massive blog time, et. al. And I am as guilty as anyone. It’s just easier to parse a number everyone sees rather than delve deeper into an options board. Plus, I am no longer a market maker, so I could no longer tell you every volatility tick without looking.
But most of the analysis is misguided. The VIX is just one number. It reflects the market feel, it does not cause the market feel. It is given FAR too much weight, especially by those that do not actually follow how an options market works, or even what exactly the VIX measures.
OK, we’re not going to ban the VIX. But here’s my plea to those pontificating on its every tweak. Learn of that of which you speak. There is no magic number in the VIX. And it doesn’t lead the market anywhere. Yes it can blip before the market, but don’t rely on that, because it’s more the exception than the rule. It’s the umbrella to the market’s rain.
Right here, right now, I see volatility that’s too jumpy relative to the actual market declines. That could foreshadow much bigger declines to follow, but in all likelihood it’s fear manifesting itself too quickly into the first sign of distress. Time will tell.
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