The VIX index is now 27% above its 10-day average, a criterion (taken from Adam Warner) that has historically been a good gauge for determining that the VIX is overbought and due to fall. The table below shows VXX (long VIX) returns since mid-2004 in the day, week, and month following pops like these (read more):
Of course, as is always true when trying to catch the falling knife (but especially so trading the wild VIX), studies like these work until they don’t, and when they fail, they fail badly.
The question is whether this particular VIX pop is the run-of-the-mill sort we’ve seen over the last 2+ years that has consistently been quickly answered by a rally in the market and a return to low volatility, or whether this VIX pop is going to develop in to one of those monster VIX spikes that occasionally (but inevitably) strike the market.
The graph below shows these monster VIX spikes by looking at the inverse VIX ETN XIV. Losses in XIV in excess of -40% have been shaded red.
An interesting note: our current VIX reading in the low 20’s puts us right about where the VIX topped out during the three previous major spikes since 2013. I’m definitely not saying that recent history is necessarily a useful guide, but if it is, this spike is near its end:
Lastly, for a more in-depth understanding of what is going on in the VIX complex, the four graphs below show the YTD relationship between volatility, the VIX, and VIX futures (click to zoom). Note that these are the same four graphs we covered in Four Graphs to Rule Them All. For experienced VIX traders, this approach to thinking about the VIX complex tells a much more complete story than simply looking at the price of a VIX ETF or ETN.
Click to see Volatility Made Simple’s own elegant solution to the VIX ETP puzzle.
Volatility Made Simple