Intersting thought on VIX:
"Regarding VIX and VXN, these have both a real anchor (historical volatility) and a psychological component (over- or underpricing of options, owing to the fear or complacency of options buyers).
Historical volatility is traditionally calculated for a 12-month lookback period, and has averaged around 17% for the S&P, in the postwar period. It means that two-thirds of the time, the market's annual range was within the 17% figure, which is the standard deviation; one-third of time, it exceeded it.
But at times of dramatic market movement, investors' horizons may be much shorter than a year. Take the unusual 20% gain that the S&P has made in the last 2 months. This 20% range can be scaled up to a projected annual range using the square root rule:
20% x SQRT[12 mos./2 mos.] = 49% estimated annual range
And to crudely estimate the standard deviation from the annual range,
49% x 0.68 = 33.3% estimated standard deviation
What's it mean? Based on the unusual volatility of the past two months, if investors project historical volatility of 33.3% for the next 12 months, then today's VIX of 29 could actually reflect bullishness on their part. It's lower than it should be, under those assumptions.
VIX is double what it was in 1995, but then there was no drawdown greater than 3% during 1995's straight-line climb. The market has changed, and VIX has changed with it. Long-term, VIX should fall back to 17%. But that will happen at much lower levels of indeces, volume, valuation and participation ... when the stock market reverts to a forgotten backwater of our culture. "
(Edited by machinehead at 9:57 pm on Nov. 13, 2001) |
