VIX Needs a Friend

A quick note on Harry Schiller’s interesting and thought provoking article on the VIX at RM:

For a buy indicator, few things in life beat a spike in the VIX over 50. But as a shorter term sell indicator, I’ve gotten better results — and more consistently — using the VIX in tandem with one or two other signals.

Two examples:  On October 16 2003, using the VIX signal alone, I sent a note to clients that the VIX was foretelling a short term correction. And while the Nasdaq did see a subsequent 100 point drop (1966 – 1842), it was hardly a tradable call. Indeed, 2 weeks later, the Nasdaq was back over 2000. 

Using the VIX in conjunction with other signals raises the success rate. One of the best calls I’ve made was on January 22, 2004. In a note to clients, "Market Flashes Yellow Caution Light," I observed that in addition to the VIX:

"Several other sentiment measures have also caught our attention. We
noted the stunningly low 10.11% Bearish sentiment amongst AAII survey
takers previously. That is significant because of the investor tendency
to become bullish after buying equities – not before. So few Bears
around make us wonder who else is left to be “converted” into buyers.

Yesterday, yet another signal caught our attention: The Put/Call ratio. As measured by the CBOE, the ratio dropped to 0.33 on January 21, 2004. We have not seen a data point that low since 12/26/97, when the ratio registered a mere 0.30 following the Asian currency crises (precipitated in large part by LTCM).
The last period with a data series between 0.35 – 0.40 was during
February to July 2000. You may recall the subsequent period as somewhat
uncomfortable for those who were exclusively long.

While the VIX is worth watching, recall that early 1990s saw the VIX in single digits for several years . . .


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