The VIX as a Stock Market Indicator
The high level of the VIX is often cited on the business networks when the overall stock market is under pressure. Usually the VIX level is cited and the term fear and greed index are associated with it. However, a good explanation of why the VIX tends to rise when the overall stock market is under pressure is not often shared. The implied volatility of option prices rises when there is more demand for than supply of option contracts. When the market comes under pressure, there is often a resulting increase in demand for option contracts. The relationship between increased demand for option contracts in times of panic will be discussed further. Then this concept will be taken another step, and how some traders apply the VIX as a technical indicator will be introduced.
Following the exploration of the relationship of the S&P 500 and VIX indexes, some other methods that have developed involving the VIX will be explored. Specifically, we will examine the VIX index alone, the VIX index combined with other volatility indexes, combining the VIX index with VIX futures trading, and an analysis of the VIX and gold prices. Finally, we'll discuss how to use the put-call ratio calculated through VIX option activity.
By no means should the sample strategies presented in this chapter be taken as absolute recommendations. They are simply basic examples of how powerful the VIX and VIX-related trading activity can be in analyzing market activity. The ...