The VIX is the ticker symbol for the Chicago Board Options Exchange (CBOE) Volatility Index, which is a measure of the implied or expected volatility of S&P 500 options over the next 30 days. This implied volatility is reflected in the premiums paid for the options. It is constructed using the implied volatilities of a wide range of S&P 500 index options. This volatility is meant to be forward looking and is calculated from both calls and puts. The VIX is a widely used measure of market risk and is often referred to as the investor fear gauge.
There are three variations of volatility indexes: the VIX tracks the S&P 500, the VXN tracks the Nasdaq 100 and the VXD tracks the Dow Jones Industrial Average. In our BCI methodology we focus in on the VIX because it gives us the broadest view of the overall market.
The VIX is a useful indicator for short-term investors including 1-month covered call writers. Generally speaking as market volatility increases the market pricing will diminish and vice-versa. The VIX is said to have an inverse relationship with the S&P 500. If we see a declining VIX or one that is remaining stable at a low level (below 30) along with an appreciating S&P 500, we have a favorable environment for selling covered call options. Below is a chart showing the inverse relationship between the VIX and the S&P 500 over a 3 month time frame:
Inverse relationship between the VIX and the S&P 500
The red arrows highlight areas when the VIX was declining and the S&P 500 was appreciating and the blue arrows show just the opposite. This relationship is reliable but not 100% accurate. However, it does add information that will help guide us in our investment decisions like strike selection for example. Like all other technical tools the VIX should be used in conjunction with other fundamental, technical and common sense indicators.
A 6-month chart of the VIX and the S&P 500 shows an accelerating market benchmark and a declining VIX. More recently the VIX has remained stable at a low level. These factors, along with predominantly bullish weekly economic reports, have painted a bullish market tone in the eyes of this investor. Below is a current comparison chart of the S&P 500 and the VIX:
Sell out-of-the-money strikes
Use high beta stocks
Roll out-and-up rather then just out
Be fully invested
The VIX is a short-term window into potential market risk. The less risk implied in the stock market, the more likely investors will participate in the market. This CBOE fear gauge should be used in conjunction with our other screens to make the best non-emotional investment decisions which in turn will maximize our profits to the highest possible levels.
I will be interviewed by Kerry Lutz of the Financial Survival Radio Network on the topic of covered call writing. When I receive the link to listen to the broadcast, I’ll publish it on this site.
I will be the keynote speaker for the American Association of Individual Investors/Atlanta Chapter at the Cobb Galleria. The meeting runs from 10AM to 1PM EST and everyone is invited. The club charges $10 for pre-registration and $15 at the door. Here is the link to register:
I will be the keynote speaker for the Long Island Stock Investors Meetup Group at the Plainview-Old Bethpage Library Auditorium. There is no charge to attend and all are invited. I will post additional information as we get closer to this event.
This week’s economic reports were mixed to positive:
The Conference Board Consumer Confidence Index fell to 70.2 in March from February’s level of 71.6. Despite this decline, the level shows that consumers have not lost faith in the economic recovery
The US economy grew at an annual rate of 3.0% in the 4th quarter up from 1.8% in February, the highest level for any quarter in 2011
Personal spending increased by 0.8% in February, the highest since July while wages increased by only 0.3%. This is seen as a sign that consumers are confident in our economy
New durable goods orders increased by 2.2% in February much better than the previous month but slightly below expectations
For the week, the S&P 500 rose by 0.8% for a year-to-date return of 12.6%.
IBD: Uptrend under pressure
BCI: This site remains moderaterly bullish favoring out-of-the-money strikes
Welcome to our growing community of premium members.
My best to all,
Alan ([email protected])