VIX Fear index
Since the mid-1990s, the Chicago Board Options Exchange has been calculating the volatility indicator — VIX, or the so-called “Fear Index”. This indicator reflects the expectations and behavior of traders on the S&P 500 wide market index for the next 30 days, more precisely, its implied volatility. The indicator is calculated on the basis of supply and demand quotes for index option contracts.
VIX shows the state of the market, its direction and mood. The pattern of the indicator is simple:
1. If the market falls, the volatility index increases;
2. and when the market grows, the volatility index decreases.
That is why sometimes it is said that the most profitable deals are revealed often in countertrend.
According to the basic theory, if the value of the VIX is above 40–45, then this indicates panic in the market, meaning that investors try to sell out their risky assets. Such situation develops when prices are at their lows and it’s time to think about long-term purchases. In comparison: If the value drops to 20 or lower, then there is a growing trend in the markets and it seems that this will be for a long time (in the area of long-term lows, it is time to think about closing long positions).
However, the range of fluctuations of the “index of fear” may vary in different historical periods. Moreover, the indicator is capable of being in the area of lows for a long time. Over the recent years, the VIX has been generally low, largely due to the actions of global central banks that have pumped the financial system with low interest rates and debt securities buybacks.
VIX volatility index in practice
As it is clear from the above, this index is applicable only to the financial market. It is used as follows:
When the index values are in the range far below the average (20 and below), this may indicate a significant relaxation of investors and, as a result of this, an impending shake-up (in form of correction or even a reversal trend). Therefore, experienced investors try to sell assets with a significant decrease in the VIX.
High VIX values (above 40) tell us about panic in the midst of professional market players. And this is the perfect time for entry points. As soon as people start to calm down (VIX drags down), you can think about buying assets.
Of course, the above recommendations on when to buy and when to sell assets are nothing, without using other tools of technical and / or fundamental analysis. However, the basic understanding of the VIX indicator can serve as an additional signal for buying or selling assets..
In addition to the above, it should be mentioned that the VIX index itself can also be traded. This has become possible since 2004, when futures contracts for it appeared. Today, in addition to them, there are also options and several types of short-term and temporary futures for this index.
VIX & BTC connection
Brian Stutland, a resident of Equity Armor Investments, is convinced that Bitcoin perfectly predicts the dynamics of the so-called “index of fear” VIX, reports CNBC.
According to him, there is a very close correlation between the price of Bitcoin and VIX, and with the help of cryptocurrency you can effectively hedge risks in traditional financial markets. In other words, despite its relatively high volatility, Bitcoin can be used as a kind of safe haven during periods of turmoil in the financial market.
“Bitcoin is a way for investors to basically move their money off the balance sheets of banks and into their own wallets,” he said. “Essentially storing their money under their pillow in the form of virtual currency.”
The graph below shows that the VIX index rather accurately repeats the bitcoin price movement with a delay of about 30 days:
“There is huge correlation right now between VIX and bitcoin 30 days ago, 30 trading days ago, that is starting to measure out credit risk in the market,” Stutland said. “That’s what cryptocurrency is becoming. It’s becoming a way to sort of de-risk yourself from credit risk in the banking industry.”
Since cryptocurrencies are largely unregulated and allow investors to withdraw their money from banks, thus, eliminating the associated credit risks and more often players in traditional markets use Bitcoin as a safe asset and hedge against financial market fluctuations, despite its own high volatility.
“Bitcoin is essentially the way investors use to withdraw their money from banks and put them in their own wallets, In essence, this is a way to store money under a pillow in the form of virtual currency.” said Brian.
Although Bitcoin is usually counted among the highly volatile assets, recently the chairman of the US Securities and Exchange Commission, Jay Clayton, noted that the cryptocurrency, to the surprise of many, turned out to be less volatile than the VIX index.
However, keep in mind that the crypto is likely to experience high and frequent volatility spikes, that is why it is difficult to be called a financial “asylum”. Therefore, be careful while taking investment decisions, evaluate risks, diversify!
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