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How the VIX Spike Will Affect 2010


Friday's 30% increase bucked a lot of trends.

Editor's Note: This article was written by Ryan Renicker of Newedge. Ryan has more than 10 years experience at top-tier brokerage firms generating options and derivative trade ideas for institutional clients. Ryan has been a member of three top-ranked options and equity derivatives strategy teams at three separate firms within the past 10 years.

On Friday, the intraday low-to-high percent move for the S&P 500 CBOE Volatility Index (VIX) was roughly 30%.

The VIX rarely increases this much. In fact, as Figure 1 illustrates, the average weekly percent change for the VIX during the past 12 years is about 7% (the red dotted line in Figure 1).

Figure 1: Percent Change for the VIX: Intraweek Basis, ln (VIX High / VIX Low) -- 1997 to Present

Click to enlarge

Source: Bloomberg

Friday's VIX spike of nearly 30% was the first VIX spike greater than 20% since late October 2008, slightly more than one year ago.

In fact, the intraweek VIX low-to-high percent changes have generally trended lower (lower highs) during the past year.

This lies in stark contrast to the 14 other greater-than-20% VIX spikes observed since mid-1997. In general, VIX spikes of this magnitude or higher tend to occur in clusters. For example, six occurred in 2008; four occurred in 2007; only one occurred in 2006, 2005, 2002, and 2001 (see Figure 2).

In other words, large percent changes in the VIX tend to be followed by additional VIX spikes.

Figure 2: SPX Intraweek Percent Return (Low-to-High) vs. VIX Intraweek Percent Change (VIX Low to VIX High)

Source: Newedge US-Listed Options Sales

Of course, the VIX is merely a statistic that attempts to measure the short-dated implied volatility of the S&P 500 Index and, as such, generally trades in line with SPX short-term realized volatility.

In addition, the dispersion of the VIX during a given time period doesn't necessarily correlate strongly with the dispersion of the underlying S&P 500. This isn't to say that changes in the VIX aren't positively correlated with the high-to-low returns in the S&P 500 Index -- indeed, there's a positive correlation, albeit a weak one, and Figure 3 illustrates this.

Figure 3: Intraweek Low-to-High Percent Change in SPX vs. Intraweek Low-to-High Percent Change in the VIX

Click to enlarge

Source: Newedge US-Listed Options Sales

To sum things up, last Friday's VIX spike -- despite being relatively high -- isn't atypical and I believe such large spikes in the VIX aren't likely to be the norm during the coming year.

As I mentioned in a market letter distributed to clients, I believe the market's volatility in the coming year is more likely going to be analogous to that of 2004 -- a period which followed a "volatility storm" the prior year and continued to trend lower at a declining rate.
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