The VIX is considered by many to be a fear index which normally moves inverse to the S&P 500. Therefore, if the S&P 500 is making a new high, the VIX normally would be making a new low. A few things are interesting at this juncture with the VIX and the S&P 500.
The S&P 500 is very close to an all time high, a 52 week high, a 6 month high, etc…At the same time the VIX is nowhere near its 52 week low, its all time low, it s6 month low, etc...
As you can see from the chart below, since January 2013, the VIX has spent 90% of the time trading between roughly $12 and call it $18. The $12 level was magical: every time the the VIX got to that level it bounced. When it got to $18-$20ish it sold off. Some option experts chart the VIX while some option commentators who work for the option experts say that you can’t chart the VIX. I will leave that discussion for some other time, but there is no denying, as you can see from the chart below, that every time the VIX hit $12 it bounced, When it got to $18-20 it faded.
This the way I’m seeing it: the VIX has built a huge base and has spent 2 years stuck in a range. Technicians might call this stage 1 of a stock’s cycle (though remember the VIX is not a stock).
Normally, stage 1 bases come after long periods of neglect in which the sellers had total control of the overall move of the underlying instrument until it starts trading sideways; Once it starts trading sideways — building the base—is usually when you have enough buyers to gobble up all the supply from the sellers or the sellers have very little to nothing left to sell. This might go on for months, and the longer it goes on for, the more explosive the move becomes once the base is resolved, hence the saying, “the longer the base the higher into space it goes”.
In a stage 1 scenario the move is usually resolved to the upside. More importantly, as the base is getting near its end point, what you normally see is a pattern of higher lows starting to form. This usually means buyers are now in control. The pattern of higher lows that the VIX has experienced since it last hit 12, 42 trading days ago. This might be part of the reason why we have seen some decent volatility in the last 2 months with no net movement whatsoever. December started with the S&P 500 pulling back 5%, then up 6%, down 4.68%, up 3%, down 3.5, up nearly 4% this week.
There’s different ways to play this development. One would be to shorten up your time frame and look to sell the rips and buy the dips; Another would be either to go long S&P 500 if you think the VIX will go back down to the bottom of the range, or you can short the S&P 500 if you think the pattern of higher lows will continue.
Going long instruments like the iPath S&P 500 VIX Short Term Futures ETN (ARCA:VXX), ProShares Ultra VIX Short-Term Futures Fund (ARCA:UVXY), or VelocityShares Daily 2x VIX Short Term ETN (NASDAQ:TVIX), is not for me. Shorting them after huge spikes is a different story.
Disclosure: The information in this blog post represents my own opinions and does not contain a recommendation for any particular security or investment. I or my affiliates may hold positions or other interests in securities mentioned in the Blog, please see my Disclaimer page for my full disclaimer.