During times of extreme market volatility, you will sometimes hear traders and analysts referring to the VIX index, but what is it and how do you trade it?
The VIX Index is a trademark of the CBOE (Chicago Board Options Exchange). It is often referred to as the Fear Index, because it is a gauge of implied volatility of S&P 500 index options. In effect, it is a way for traders to trade the volatility of S&P 500 stocks.
How is the VIX Index Calculated?
The VIX is calculated in Chicago on a real time basis and is frequently cited in media reports as a measure of fear in the market. It is quoted in percentage points and represents the expected range of movement in the S&P 500 index over the next 30 days (although figures are also quoted for one day, five days and one year should you be interested).
The core VIX number is based on options prices, but in effect provides you with an expected percentage annualised change in the S&P 500 – at least in the view of options buyers and sellers. Therefore, a VIX of 25 would mean that there is a 68% confidence level that the S&P 500 would be up or down 25% or less over the next 30 days.
How to access the VIX Index
Traders can access the VIX via a number of products, including exchange-listed futures and options, spread betting accounts and Contracts for Difference. There are also exchange traded funds (ETFs) available that track the VIX.
Some investors will use the VIX as a hedge against stock portfolios, while others simply trade it opportunistically as panic levels increase in the market. Typically the VIX will increase in price as fear and uncertainty creep into the market. For example, during the financial crisis of 2008-09 it hit a high of almost 90 points, while following the UK ‘Brexit’ referendum it rose to almost 26 before falling again to 15 in the space of a week.