Hi and happy Monday to everyone :)
This educational post is about VIX and I will present one way how to use it for trying to catch bottoms.
Let's start with little introduction: What is VIX?
The VIX is an index run by the Chicago Board Options Exchange ( CBOE ), that measures the stock market’s expectation for
volatility over the next 30 days based on option prices for the S&P 500 . Volatility is a statistical measure based on how much an
asset’s price moves in either direction and is often used to measure the riskiness of an asset.
VIX is often called 'fear index' because investors use the VIX to measure the level of risk, fear, or stress in the market when making
investment decisions. The higher the VIX goes, the more volatile price movements are expected.
Most traders know about VIX and there are many ways how to use it. But in addition to so called regular VIX (30 days), CBOE also calculates VIX
for different time-periods: 9-day, 3-month and 6-month. These are all plotted below S&P 500 index on chart above. I got this idea several years
ago from well known trader and author Alexander Elder.
Logic behind plotting these 4 different VIX indicators is pretty simple. Usually, the longer the timeframe, the higher the VIX . This is like
buying insurance - more things can happen in longer timeframe so 6-month insurance is more expensive than 9-day insurance . Same goes with VIX .
During panic sometimes shortest (9-day) VIX shoots above longer timeframe indicators (1-month, 3-month and 6-month). Then things will become
interesting. If this happens then it is not sustainable (for long periods) and market bottom could be near.
At chart above I have highlighted all recent occasions when shortest VIX (9-day) is above all the rest. I have excluded signals that have happened
below 20 because usually VIX below 20 is normal level. But as always, it can vary and depends from market context.
This indicator has had tendency to catch at least short-term market bottoms and there are many ways how to use it. Here are some examples:
1) Buy when shortest timeframe VIX (9-days) rises above others and then returns down again.
2) Add Keltner Channels or Bollinger Bands around them - signals could be lines breaking out of channels and then re-entering for example.
3) Combine VIX signal with some price action setups.
Or something else - trading is a little bit like art where you can be creative!
Please keep in mind that I have not back-tested this idea. In my own trading I use it as one tool of measuring market environment and it helps me
to adjust my day-trading style during volatile times. Intraday I pay attention to these lines even below 20 i.e. I will be alert when shortest (9d day)
line rises above VIX (30 day).
Feel free to play around with this idea if you find it interesting and suitable for you. As always, DYOR (Do Your Own Research) before deciding
to use it with real money.
I've added several additional charts with examples to this post.
Thank you and enjoy your trading :)
This educational post is about VIX and I will present one way how to use it for trying to catch bottoms.
Let's start with little introduction: What is VIX?
The VIX is an index run by the Chicago Board Options Exchange ( CBOE ), that measures the stock market’s expectation for
volatility over the next 30 days based on option prices for the S&P 500 . Volatility is a statistical measure based on how much an
asset’s price moves in either direction and is often used to measure the riskiness of an asset.
VIX is often called 'fear index' because investors use the VIX to measure the level of risk, fear, or stress in the market when making
investment decisions. The higher the VIX goes, the more volatile price movements are expected.
Most traders know about VIX and there are many ways how to use it. But in addition to so called regular VIX (30 days), CBOE also calculates VIX
for different time-periods: 9-day, 3-month and 6-month. These are all plotted below S&P 500 index on chart above. I got this idea several years
ago from well known trader and author Alexander Elder.
Logic behind plotting these 4 different VIX indicators is pretty simple. Usually, the longer the timeframe, the higher the VIX . This is like
buying insurance - more things can happen in longer timeframe so 6-month insurance is more expensive than 9-day insurance . Same goes with VIX .
During panic sometimes shortest (9-day) VIX shoots above longer timeframe indicators (1-month, 3-month and 6-month). Then things will become
interesting. If this happens then it is not sustainable (for long periods) and market bottom could be near.
At chart above I have highlighted all recent occasions when shortest VIX (9-day) is above all the rest. I have excluded signals that have happened
below 20 because usually VIX below 20 is normal level. But as always, it can vary and depends from market context.
This indicator has had tendency to catch at least short-term market bottoms and there are many ways how to use it. Here are some examples:
1) Buy when shortest timeframe VIX (9-days) rises above others and then returns down again.
2) Add Keltner Channels or Bollinger Bands around them - signals could be lines breaking out of channels and then re-entering for example.
3) Combine VIX signal with some price action setups.
Or something else - trading is a little bit like art where you can be creative!
Please keep in mind that I have not back-tested this idea. In my own trading I use it as one tool of measuring market environment and it helps me
to adjust my day-trading style during volatile times. Intraday I pay attention to these lines even below 20 i.e. I will be alert when shortest (9d day)
line rises above VIX (30 day).
Feel free to play around with this idea if you find it interesting and suitable for you. As always, DYOR (Do Your Own Research) before deciding
to use it with real money.
I've added several additional charts with examples to this post.
Thank you and enjoy your trading :)
Comment:
March 2020 - Market Selloff
Trader should use his/her experience and have understanding about current market context. By that I mean trader should try to determine if this is
just a pullback or something more serious. This was time where to stay alert for surprises. Remember - staying sidelines is perfectly good
position when there is high degree of uncertainty.
Also keep in mind that it is quite easy to analyse charts afterwards compared with real-time situations when things are just unfolding, and you don't
have no more data on the right side of the chart than current bar!
Trader should use his/her experience and have understanding about current market context. By that I mean trader should try to determine if this is
just a pullback or something more serious. This was time where to stay alert for surprises. Remember - staying sidelines is perfectly good
position when there is high degree of uncertainty.
Also keep in mind that it is quite easy to analyse charts afterwards compared with real-time situations when things are just unfolding, and you don't
have no more data on the right side of the chart than current bar!
Comment:
December 2018 - Market Selloff - VIX > 30
Comment:
Weekly chart covering approximately 17 years.
As you can see VIX readings over 50 are very rare.
VIX above 30 is also quite infrequent event. Just pointing out that if trader wants to focus only on high VIX (>30) readings then he/she will get very few signals (which is not necessarily a bad thing).
Also there are periods when VIX stays below 20 for years (highlighted boxes).
Thank you :)
As you can see VIX readings over 50 are very rare.
VIX above 30 is also quite infrequent event. Just pointing out that if trader wants to focus only on high VIX (>30) readings then he/she will get very few signals (which is not necessarily a bad thing).
Also there are periods when VIX stays below 20 for years (highlighted boxes).
Thank you :)
1) Lowest value - VIX9D (9 day) - Cyan
2) Followed by VIX (30 days) - Orange
3) Followed by VIX3m (3 months) - Yellow
4) Highest value VIX6M /6 months) - Purple
As mentioned above, this should be so called "Correct Order" of VIX lines.