Cashing In On Panic
High volatility, low yield often ideal for buying.
On the VIX and More blog, Bill Luby presented an interesting indicator this afternoon that takes a ratio of the VIX implied volatility gauge to the yield on the 10-year Treasury Note.
The ratio makes sense as a measure of fear or uncertainty in the market, since the VIX tends to spike higher during those times, while a rush to the safety of government debt tends to lower the yield on Notes. So when we see times of extreme duress, it should coincide with spikes higher in the VIX / Treasury Ratio.
The problem with the indicator is the limited history of the VIX. However, we can get around that by computing historical volatility on the S&P 500 instead - the two are very closely correlated. By doing that, we can get a history of the measure all the way back to 1962.
When doing that, we do indeed see that big spikes in the indicator have only occurred during panic situations. "Extreme" for this measure could be considered anything over a ratio of seven (meaning the level of S&P volatility is seven times greater than the yield on the 10-year Notes), and our current situation now qualifies.
The table below shows all dates when the ratio went from below seven to above seven. Note that there were some dates in fairly close proximity as the Note yield jumped around a bit at these times. Instead of removing them from the study, I included them so we could see all the dates.
We can see from the table that results going forward were exceptionally positive, and consistently so. Looking across the time frames from one week to three months, there were few negative returns, and the averages were several multiples of random returns during the study period. The combination of a high volatility level and low Treasury yield corresponded to some excellent buying opportunities over the past 45 years, with essentially no failures.
The information on this website solely reflects the analysis of or opinion about the performance of securities and financial markets by the writers whose articles appear on the site. The views expressed by the writers are not necessarily the views of Minyanville Media, Inc. or members of its management. Nothing contained on the website is intended to constitute a recommendation or advice addressed to an individual investor or category of investors to purchase, sell or hold any security, or to take any action with respect to the prospective movement of the securities markets or to solicit the purchase or sale of any security. Any investment decisions must be made by the reader either individually or in consultation with his or her investment professional. Minyanville writers and staff may trade or hold positions in securities that are discussed in articles appearing on the website. Writers of articles are required to disclose whether they have a position in any stock or fund discussed in an article, but are not permitted to disclose the size or direction of the position. Nothing on this website is intended to solicit business of any kind for a writer's business or fund. Minyanville management and staff as well as contributing writers will not respond to emails or other communications requesting investment advice.
Copyright 2011 Minyanville Media, Inc. All Rights Reserved.