- [en-US] What is the CBOE Volatility Index VIX?
- Alternative names for the VIX
- How the VIX Works
- Alternative methods for measuring volatility
- Utilizing VIX on a wider level
- We can help
- What is the VIX volatility index?
- How do you track the VIX?
- Why is it so important?
- What Is The VIX Volatility Index?
- What Is the VIX?
- How Does the VIX Measure Market Volatility?
- How Can You Invest in the VIX?
- Making Investment Decisions the VIX
- VIX – Definition, Overview of the CBOE Volatility Index
- Uses of the VIX Volatility Index
- How Option Prices Reflect Volatility
- History of the VIX
- Related Readings
[en-US] What is the CBOE Volatility Index VIX?
The Cboe Volatility Index is generally referred to as the VIX, and it was originally created by the Chicago Board Options exchange (CBOE).
It offers a gauge of the risk in the market at any given time and the prevailing sentiment of investors, by creating a real-time VIX index the volatility expected over the next 30 days.
The VIX index is created on the basis of the price inputs of the S&P 500 index options.
Alternative names for the VIX
The VIX has also been known as the Fear Gauge and Fear Index, because it is used by the s of portfolio managers, researchers and investors to ascertain factors fear, stress, and risk within the market, and the levels they are running at before making any investment.
How the VIX Works
Where stocks are concerned the degree of volatility present refers to the variation in the trading price achieved over a set period of time. Two stocks in similar tech companies – Stock A and Stock B – may close on a specific date at prices of $105.29 and $104.
89, making them broadly similar in value. Looking back at the way their prices had fluctuated over the previous month, however, reveals that within those 30 days the price of Stock A swung between highs and lows much more than that of Stock B.
This indicates that Stock A was much more volatile for that particular month.
Drilling deeper into this example, however, might reveal that over the previous three months, rather than just one, it was Stock B that experienced the wider price swings, making this the more volatile stock over a longer time frame. By measuring price swings over a set period of time the VIX enables investors to build a picture of the volatility – and therefore risk – of individual stocks.
Alternative methods for measuring volatility
Two methods are used to ascertain the volatility of a stock or other financial instrument. The first, as detailed above, involves calculating on the basis of the price over a historical period.
This method measures the average variance and standard deviation of price data sets from the past.
The range of stock prices used can be entered into a program MS Excel and the volatility calculated using the STDEVP() function.
The figure this method produces is called historical volatility and the standard approach is to take the volatility for the past three months, for example, and assume that the same pattern will follow over the next three months.
The other method uses option prices rather than the value of the stocks themselves. The price of options depends on the probability of a stock hitting a price known as the strike price or exercise price. For example, stock in Amazon might be trading at $252 per share.
A call option on the stock has a strike price of $260 and one month to expire. The price of this option is clearly a perception of how much the stock will move within a month, which equates to the volatility of that stock.
The fact that option prices are available on the open market means that they can be used as a tool to calculate the perceived volatility of the stock in question – in this case Amazon.
Volatility calculated in this way is known as implied volatility as it looks forward to how much the price is expected to shift, rather than back to how much it already has shifted.
Utilizing VIX on a wider level
The same techniques outlined for calculating the volatility of a specific stock can be widened to calculate the volatility of a specific sector or an entire market.
By observing the price shifts in an index such as the NASDAQ Bank Index, it is possible to take data relating to more than 300 stocks from the banking and financial services sector and use that data to assess the volatility of the sector as a whole. The same methods can be applied to an entire market, such as the S&P 500.
In both cases, a combination of price fluctuations and option prices can be used to create a measure of volatility that looks both backwards and forwards in time.
The VIX index is forward-looking and the expected volatility of S&P 55 index options. As such, it represents the market expectation of volatility over the next 30-day period.
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What is the VIX volatility index?
The Chicago Board Options Exchange�(“CBOE”) is the world's largest stock market/exchange that focuses on trading options.�� In 1993, the CBOE invented an index called the CBOE Volatility Index (“the VIX”).� The VIX is an index that measures the prices of options on the S&P 500 stock index.� Per the CBOE's website:
“The VIX index is an index of 30-day implied volatility as indicated by the prices of SPX option contracts. Implied volatility rises when the relative prices of options increase. Rising implied volatility is generally caused by an imbalance of demand for options from options buyers over supply of options from sellers.
In contrast, volatility falls when the relative prices of options decline. Falling implied volatility is generally caused by an imbalance of supply of options from option sellers over demand for options from buyers.
The daily change in the VIX index is an indication of how aggressively SPX option contracts are being purchased or sold.”
Is that clear?? Not really, not to most people.� In simple terms, the VIX measures how expensive options are on the S&P 500 stock index.� All stock options go up and down in price on a daily basis as the price of the underlying stock (or S&P 500 index) changes on a daily basis.� But stock options also go up and down in price for other reasons.
The options market is a different market than the stock market (literally), and so there are times when the price of options will be going up or down in a pattern that is different than the actual stock market itself.
� So the VIX was originally invented as a way to measure how expensive or cheap the options market is (using options on the S&P 500 index as�a barometer).
Where does the fancy term “volatility index” or “implied volatility” come from, if the VIX index is really just a measure of the pricing of stock options?����� The theory is that the primary reason that stock option prices go up or down is that investors' expectations of the future volatility of the stock market are going up or down.��� An investor that buys a stock option (or option on the S&P 500 index)�is betting that the stock itself (or the index) will go up or down, and generally you only make money on a stock option if the stock price goes up or down in a significant way.��� The odds of a particular stock's price going significantly up or down are greater if the overall stock market is going significantly up or down.��So in theory stock options are more valuable in a market where stock prices are going up or down in a dramatic fashion (i.e. if the market is volatile).��
So, the theory goes,�if�on average stock option prices�go up or down,�investors must be assuming that the stock market going forward is going to be more or less volatile.
�� So if the CBOE VIX index goes up, it “implies” that the people buying the options must be assuming that the market going forward is going to be more volatile.
�� It's not a perfect theory – and thus the use of the term “implied volatility” – but it's generally correct.
How do you track the VIX?
In most online finance websites you can pull up the VIX index in a stock chart using the following symbols: *���We use the symbol VIX *���At Yahoo Finance use VIX *���At Schwab use $VIX *���At Fidelity use VIX
*�� At Google Finance use VIX
Why is it so important?
Although it measures something straight forward (the price of options on the S&P 500 index), the VIX has become more than just an index.��� Many people track the VIX as a symbol of investor fear or confidence in the market.� Why?
As you can see from the chart below, generally speaking, the VIX index goes up or down in the opposite direction of the U.S. stock market (as measured here by the EFT SPY). If the stock market is having a good period where it is going up, the VIX generally will go down during such period. If the stock market is having a down period, the VIX generally will go up during such period.
Chart 1 -��Daily change during the past year in the VIX Index versus the S&P 500
Why does this happen? Again, per CBOE's website:
“A frequently-asked question is, “Why do SPX and the VIX index move in opposite directions?”
The answer to this question is rooted in the nature of option trading that occurs on days when the market is down versus days when the market is higher. It seems that the “order flow” – the pace and types of orders that come into the marketplace – in SPX options is different on bullish days compared to bearish days.
Consider a day when SPX is declining. On such a day, market participants may be looking for ways to protect their portfolios against further market declines.
Since purchasing SPX put options is an easy and effective hedging mechanism, the increased demand for SPX put options causes the relative price and, therefore, the implied volatility of these options in increase.
Since the VIX index is a measure of SPX implied volatility, the VIX index moves higher because of this increase in demand for SPX put options.
Now consider the behavior of option market participants when the SPX is rising. SPX options traders do not seem to rush into buying SPX call options when the market is rising in the same way that they seem to plunge into buying puts when the market is falling.
As a result, the order flow in SPX options on rising days seems to be more balanced between buyers and sellers. The result is steady or falling implied volatility of SPX contracts.
And, again, since the VIX index measures this implied volatility, the VIX index tends to stay steady or decline on days when SPX rises. “
Therefore, the VIX index has become an important index that people follow.��� But because of the complexity, it is often misunderstood.�� It's also hard to determine cause and effect.
��� Did the stock market go down because the VIX went up?�� Or did the stock market going down cause the VIX to go up?��� It's hard to say for sure, but generally the VIX responds to what is happening in the market, rather than an increase in the VIX causing the market to go down.
All data is a live query from our database. The wording was last updated: 04/29/2017.
What Is The VIX Volatility Index?
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The CBOE Volatility Index—also known as the VIX—is a primary gauge of stock market volatility. The VIX volatility index offers insight into how financial professionals are feeling about near-term market conditions. Understanding how the VIX works and what it’s saying can help short-term traders tweak their portfolios and get a feel for where the market is headed.
What Is the VIX?
The VIX, formally known as the Chicago Board Options Exchange (CBOE) Volatility Index, measures how much volatility professional investors think the S&P 500 index will experience over the next 30 days.
Market professionals refer to this as “implied volatility”—implied because the VIX tracks the options market, where traders make bets about the future performance of different securities and market indices, such as the S&P 500.
For people watching the VIX index, it’s understood that the S&P 500 stands in for “the stock market” or “the market” as a whole.
When the VIX index moves higher, this reflects the fact that professional investors are responding to more price volatility in the S&P 500 in particular and markets more generally.
When the VIX declines, investors are betting there will be smaller price moves up or down in the S&P 500, which implies calmer markets and less uncertainty.
It’s important to note here that while volatility can have negative connotations, greater risk, more stress, deeper uncertainty or bigger market declines, volatility itself is a neutral term.
It’s simply a statistical measure of price changes for a security or an index.
Greater volatility means that an index or security is seeing bigger price changes—higher or lower—over shorter periods of time.
How Does the VIX Measure Market Volatility?
The VIX index measures volatility by tracking trading in S&P 500 options. Large institutional investors hedge their portfolios using S&P 500 options to position themselves as winners whether the market goes up or down, and the VIX index follows these trades to gauge market volatility.
The options market can be somewhat opaque, but technically speaking, the VIX measures volatility by looking at strike prices related to different puts and calls options contracts that expire in one month as well as those that expire on different Fridays of the upcoming month. Prices are weighted to gauge whether investors believe the S&P 500 index will be gaining ground or losing value over the near term.
Generally speaking, if the VIX index is at 12 or lower, the market is considered to be in a period of low volatility. On the other hand, abnormally high volatility is often seen as anything that is above 20. When you see the VIX above 30, that’s sometimes viewed as an indication that markets are very unsettled.
How Can You Invest in the VIX?
There are a range of different securities the CBOE Volatility Index that provide investors with exposure to the VIX. Alternatively, you can buy and sell VIX options and futures contracts.
Perhaps the most straightforward way to invest in the VIX is with exchange-traded funds (ETFs) and exchange-traded notes (ETNs) VIX futures. As exchange-traded products, you can buy and sell these securities stocks, greatly simplifying your VIX investing strategy.
One of the most popular and accessible of these is the ProShares VIX Short-Term Futures ETF (VIXY), which is VIX futures contracts with a 30-day maturity. Some exchange-traded securities let you speculate on implied volatility up to six months in the future, such as the iPath S&P 500 VIX Mid-Term Futures ETN (VXZ), which invests in VIX futures with four- to seven-month maturities.
Before investing in any VIX exchange-traded products, you should understand some of the issues that can come with them. Certain VIX-based ETNs and ETFs have less liquidity than you’d expect from more familiar exchange traded securities. ETNs in particular can be less liquid and more difficult to trade as well as may carry higher fees.
Making Investment Decisions the VIX
Market professionals rely on a wide variety of data sources and tools to stay on top of the market. The VIX is one the main indicators for understanding when the market is possibly headed for a big move up or down or when it may be ready to quiet down after a period of volatility.
Experts understand what the VIX is telling them through the lens of mean reversion. In finance, mean reversion is a key principle that suggests asset prices generally remain close to their long-term averages. If prices gain a great deal very quickly, or fall very far, very rapidly, the principle of mean reversion suggests they should snap back to their long-term average before long.
The VIX index tracks the tendency of the S&P 500 to move away from and then revert to the mean.
When the stock markets appear relatively calm but the VIX index spikes higher, professionals are betting that prices on the S&P 500—and thereby the stock market as a whole—may be moving higher or lower in the near term.
When the VIX moves lower, investors may view this as a sign the index is reverting to the mean, with the period of greater volatility soon to end.
As an investor, if you see the VIX rising it could be a sign of volatility ahead. You might consider shifting some of your portfolio to assets thought to be less risky, bonds or money market funds. Alternatively, you could adjust your asset allocation to cash in recent gains and set aside funds during a down market.
On the other hand, during times when the VIX is falling, indicating the possibility of more stability to come in the stock market, it might make more sense to focus on individual stocks or other riskier assets that might fare well during times of growth.
Just keep in mind that with investing, there’s no way to predict future stock market performance or time the market.
The VIX is merely a suggestion, and it’s been proven to be wrong about the future direction of markets nearly as often as it’s been right.
That’s why most everyday investors are best served by regularly investing in diversified, low-cost index funds and letting dollar-cost averaging smooth out any pricing swings over the long term.
VIX – Definition, Overview of the CBOE Volatility Index
The Chicago Board Options Exchange (CBOE) created the VIX (CBOE Volatility Index) to measure the 30-day expected volatility of the US stock marketStock MarketThe stock market refers to public markets that exist for issuing, buying and selling stocks that trade on a stock exchange or over-the-counter. Stocks, also known as equities, represent fractional ownership in a company, sometimes called the “fear index”. The VIX is the prices of options on the S&P 500 Index and is calculated by aggregating weighted prices of the index’s call and put optionsOptions: Calls and PutsAn option is a form of derivative contract which gives the holder the right, but not the obligation, to buy or sell an asset by a certain date (expiration date) at a specified price (strike price). There are two types of options: calls and puts. US options can be exercised at any time over a wide range of strike prices.
VIX Graph (Source: Yahoo Finance)
Volatility measures the frequency and magnitude of price movements over time. The more rapid and substantial the price changes, the greater the volatility.
It can be measured with historical values or expected future pricesStrike PriceThe strike price is the price at which the holder of the option can exercise the option to buy or sell an underlying security, depending on. The VIX is a measure of expected future volatility.
The VIX is intended to be used as an indicator of market uncertainty, as reflected by the level of volatility. The index is forward-looking in that it seeks to predict variability of future market price action.
The fact that this metric represents expected volatility is very important. It is the premiums that investors are willing to pay for the right to buy or sell a stock, rather than being a direct measure of volatility.
The premiums for options can be seen as representing the perceived level of risk in the market. The greater the risk, the more people are willing to pay for “insurance” in the form of options.
When premiums on options decline, so does the VIX.
Uses of the VIX Volatility Index
The VIX is given as a percentage, representing the expected movement range over the next year for the S&P 500, at a 68% confidence interval.
In the above graph, the volatility index is quoted at 13.77%. It means that the annualized upward or downward change of the S&P 500 is expected to be no more than 13.77% within the next year, with a 68% probability.
The monthly, weekly, or daily expected volatility can be calculated from the annual expected volatility. There are 12 months, 52 weeks, or 252 trading days in a year. By using the annual expected volatility of 13.77% from above, the calculations are as follows:
A high VIX indicates high expected volatility and a low VIX number indicates low expected volatility.
How Option Prices Reflect Volatility
When investors anticipate large upswings or downswings in stock prices, they often hedge their positions with options.
Those who own call or put options are only willing to sell them if they receive a sufficiently large premium.
An aggregate increase in option prices (which indicates greater market uncertainty and higher projected volatility), will raise the VIX and, thereby, indicate to investors the probability of increasing volatility in the market.
The VIX is considered a reliable reflection of option prices and ly future volatility in the S&P 500 Index.
History of the VIX
The long-term average for the VIX volatility index is 18.47% (as of 2018).
Historically speaking, a VIX below 20% reflects a healthy and relatively moderate-risk market. However, if the volatility index is extremely low, it may imply a bearish view of the market.
A VIX of greater than 20% signifies increasing uncertainty and fear in the market and implies a higher-risk environment.
During the 2008 Financial Crisis, the volatility index skyrocketed to extreme levels of above 50%.
That meant that option traders expected stock prices to fluctuate widely, between a 50% upswing or downswing within the next year, 68% of the time. At one point during the crisis, the index reached as high as 85%.
Although VIX levels can be very high during times of crisis, extreme levels are rarely sustained for extended periods of time. This is because the market conditions lead traders to take actions to reduce their risk exposure (such as purchasing or selling options). That, in turn, reduces the levels of fear and uncertainty in the market.
Thank you for reading CFI’s explanation of the VIX – the “fear index”.
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