Breaking News
0
Ad-Free Version. Upgrade your Investing.com experience. Save up to 40% More details

How To Implement VIX Strategy To Generate Profits

By Michael GayedStock MarketsNov 01, 2020 09:05AM ET
www.investing.com/analysis/actively-using-passive-sectors-to-generate-alpha-using-the-vix-200543057
How To Implement VIX Strategy To Generate Profits
By Michael Gayed   |  Nov 01, 2020 09:05AM ET
Saved. See Saved Items.
This article has already been saved in your Saved Items
 

Background

The logic behind our research is actually pretty straightforward when you think about it. It’s a spin on the traditional buy low, sell high strategy and indicates that investors should be buying equities (or, conceivably, other risk assets) when volatility levels are excessively high and sell when volatility is excessively low.

Why? Spikes in the VIX are almost always associated with sharp and severe downturns in the markets. This can best be explained in the paper’s conclusion.

“While momentum is often touted as the ideal anomaly to take advantage of using sectors to express an active bet on continued performance, we find that an approach which waits for momentum to crash with a VIX spike allows for an ideal set-up to buy low and sell high when investor overreactions take place.”

As the VIX rises, stock prices tend to fall and investors, in general, tend to overreact. These types of scenarios create opportunities for smart market watchers to exploit and generate alpha.

The last three major VIX spikes all created buying opportunities that preceded sharp rebounds in equity prices.

VIX Daily Chart
VIX Daily Chart

The spikes highlighted are the most obvious examples, but you can see a similar relationship between smaller scale VIX spikes and stock prices at many points over the past five years. This was our general thesis. By adding risk to your portfolio when volatility levels were high, investors would essentially be buying stocks “on sale”. Positioning your bets in the right sectors also amplified the opportunity to achieve superior results.

High Level Results

We generated our backtest looking at the rolling 14-day VIX on any given trading day (in order to smooth out some of the short-term noise) and measuring the forward-looking performance over several time periods.

The results are pretty compelling.

Forward Returns Rolling 14 Day VIX
Forward Returns Rolling 14 Day VIX

In summary, investing in almost any sector when VIX levels are at their lowest yielded the poorest forward-looking returns. Conversely, investing when volatility levels are at their highest produced the best longer-term results.

Some of the other findings make intuitive sense as well. Cyclicals and growth areas of the market performed best coming out of a VIX spike. In theory, these sectors will likely have underperformed during a high volatility and subsequently outperformed on the rebound. The traditionally defensive sectors - consumer staples, healthcare and utilities - delivered the worst returns for the opposite reason.

At the low VIX levels, however, utilities and consumer staples were outperformers. Presumably, this would be because a period of extreme calm precedes a volatility spike, in which defensive issues likely fall less than the market.

Historically, tech outperforms in all scenarios because, well, it’s the tech sector!

In the paper, we offered a number of different scenarios in which investors could implement the VIX strategy. Similar to what I do with the existing signals, we proposed various weighting of cyclical and defensive sectors based on pre-specified VIX levels.

The one I’ll focus on here is what we called the “All-In Sector Rotation” strategy. In a nutshell, it allocates 100% to a cyclical index in high VIX environments and rotates to a 100% defensive index in low VIX environments.

As part of the research, we determined the following VIX levels to be our trigger points.

Entry & Exit Levels
Entry & Exit Levels

We ran a few different scenarios within this strategy, so you’ll see terms like equal-weighted and sector-weighted (which are just what they sound like) and static vs. rolling (which use different measuring periods to determine VIX level). The results in each of these scenarios is substantially similar, so I’ll just focus on the results of the strategy at a high level.

How To Implement VIX Strategy To Generate Profits
 

Related Articles

How To Implement VIX Strategy To Generate Profits

Add a Comment

Comment Guidelines

We encourage you to use comments to engage with other users, share your perspective and ask questions of authors and each other. However, in order to maintain the high level of discourse we’ve all come to value and expect, please keep the following criteria in mind:  

  •            Enrich the conversation, don’t trash it.

  •           Stay focused and on track. Only post material that’s relevant to the topic being discussed. 

  •           Be respectful. Even negative opinions can be framed positively and diplomatically. Avoid profanity, slander or personal attacks directed at an author or another user. Racism, sexism and other forms of discrimination will not be tolerated.

  • Use standard writing style. Include punctuation and upper and lower cases. Comments that are written in all caps and contain excessive use of symbols will be removed.
  • NOTE: Spam and/or promotional messages and comments containing links will be removed. Phone numbers, email addresses, links to personal or business websites, Skype/Telegram/WhatsApp etc. addresses (including links to groups) will also be removed; self-promotional material or business-related solicitations or PR (ie, contact me for signals/advice etc.), and/or any other comment that contains personal contact specifcs or advertising will be removed as well. In addition, any of the above-mentioned violations may result in suspension of your account.
  • Doxxing. We do not allow any sharing of private or personal contact or other information about any individual or organization. This will result in immediate suspension of the commentor and his or her account.
  • Don’t monopolize the conversation. We appreciate passion and conviction, but we also strongly believe in giving everyone a chance to air their point of view. Therefore, in addition to civil interaction, we expect commenters to offer their opinions succinctly and thoughtfully, but not so repeatedly that others are annoyed or offended. If we receive complaints about individuals who take over a thread or forum, we reserve the right to ban them from the site, without recourse.
  • Only English comments will be allowed.

Perpetrators of spam or abuse will be deleted from the site and prohibited from future registration at Investing.com’s discretion.

Write your thoughts here
 
Are you sure you want to delete this chart?
 
Post
Post also to:
 
Replace the attached chart with a new chart ?
1000
Your ability to comment is currently suspended due to negative user reports. Your status will be reviewed by our moderators.
Please wait a minute before you try to comment again.
Thanks for your comment. Please note that all comments are pending until approved by our moderators. It may therefore take some time before it appears on our website.
 
Are you sure you want to delete this chart?
 
Post
 
Replace the attached chart with a new chart ?
1000
Your ability to comment is currently suspended due to negative user reports. Your status will be reviewed by our moderators.
Please wait a minute before you try to comment again.
Add Chart to Comment
Confirm Block

Are you sure you want to block %USER_NAME%?

By doing so, you and %USER_NAME% will not be able to see any of each other's Investing.com's posts.

%USER_NAME% was successfully added to your Block List

Since you’ve just unblocked this person, you must wait 48 hours before renewing the block.

Report this comment

I feel that this comment is:

Comment flagged

Thank You!

Your report has been sent to our moderators for review
Disclaimer: Fusion Media would like to remind you that the data contained in this website is not necessarily real-time nor accurate. All CFDs (stocks, indexes, futures) and Forex prices are not provided by exchanges but rather by market makers, and so prices may not be accurate and may differ from the actual market price, meaning prices are indicative and not appropriate for trading purposes. Therefore Fusion Media doesn`t bear any responsibility for any trading losses you might incur as a result of using this data.

Fusion Media or anyone involved with Fusion Media will not accept any liability for loss or damage as a result of reliance on the information including data, quotes, charts and buy/sell signals contained within this website. Please be fully informed regarding the risks and costs associated with trading the financial markets, it is one of the riskiest investment forms possible.
Continue with Google
or
Sign up with Email