11-17-18 10:29 PM EST | Email Article

By Mark Hulbert, MarketWatch

The VIX has never deserved its reputation as a contrarian indicator

What does it mean that the VIX is only barely higher than average, even as the stock market is experiencing remarkable volatility?

The VIX is the CBOE Volatility Index. Though its calculation is complex -- derived from the implied volatilities of S&P 500 options maturing over the subsequent month -- it is generally known as an "investor fear index." Contrarians interpret high levels to be bullish and low levels as bearish.

That's why many contrarians are concerned right now. The VIX currently is trading around 20, only slightly higher than the historical average of 19.26.

I have a simple message if you share the contrarians' concern: Don't worry.

That's because the VIX has never deserved its reputation as a contrarian indicator. In fact, the stock market more often than not has performed better following below-average VIX readings than after above-average ones. That's just the opposite of what you'd expect. (See accompanying chart.)

To be sure, none of the differences plotted in the chart is significant at the 95% confidence level that statisticians often use when assessing whether a pattern is genuine. But notice that this doesn't change my argument, since I'm not saying that you should interpret low VIX levels as being outright bullish. My argument instead is that the VIX shouldn't be interpreted in a contrarian way to begin with.

This conclusion is reinforced upon analyzing what happened to the VIX 10 years ago this month. That's when the VIX shot up and through what had previously been its all-time high of 45.74. Contrarian-oriented traders who bought equities when the VIX approached that previous high incurred huge losses, since the market kept on falling -- and the VIX kept on rising. By the time the VIX finally hits its peak later that November, it was nearly double its previous record -- 80.86.

Even that VIX peak above 80 was anything but a buy signal, furthermore. Over the subsequent three months, until early 2009, the S&P 500 dropped an additional 10.1% while the Dow Jones Industrial Average fell 13.7%.

None of this means that the current U.S. market couldn't continue to fall, of course. My point is just this: If the market does keep sliding, it will be for reasons other than the VIX's current middle-of-the-road level. If this is why you were worrying, you can rest more easily.

For more information, including descriptions of the Hulbert Sentiment Indices, go to The Hulbert Financial Digest (http://hulbertratings.com/) or email mark@hulbertratings.com (mailto:mark@hulbertratings.com).

Read: CNBC's Jim Cramer says stock market is in 'a very serious correction' -- and there's nowhere to hide (http://www.marketwatch.com/story/cnbcs-jim-cramer-says-stock-market-is-in-a-very-serious-correction-and-theres-nowhere-to-hide-2018-11-12)

Also: Hedge-fund boss who predicted '87 crash says get ready for some 'really scary moments' (http://www.marketwatch.com/story/hedge-fund-boss-who-predicted-87-crash-says-get-ready-for-some-really-scary-moments-2018-11-15)

-Mark Hulbert; 415-439-6400; AskNewswires@dowjones.com

 

(END) Dow Jones Newswires

11-17-18 2229ET

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