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The CBOE Volatility Index (VIX) is a real-time index that represents the market's expectations for the relative strength of recent price changes in the S&P 500 Index (SPX).
The CBOE Volatility Index (VIX) is a real-time index that represents the market's expectations for the relative strength of recent price changes in the S&P 500 Index (SPX). Because it is derived from the prices of recently expiring SPX Index options, a 30-day forward forecast of volatility is generated. Volatility, the speed at which prices change, is often viewed as a measure of market sentiment, specifically the level of fear among market participants.
The index is more commonly known as its ticker, often shortened to "VIX." It is created by CBOE Options Exchange and maintained by CBOE Global Markets. This is an important index in the world of trading and investing because it provides a quantifiable indicator of market risk and investor sentiment.
The VIX is designed to measure the extent to which the S&P 500's price moves (i.e., its volatility). The more volatile the prices in the index, the higher the volatility, and vice versa.
In addition to the index as a measure of volatility, traders can trade VIX futures, options and exchange-traded funds (ETFs) to hedge or speculate on changes in volatility in the index.
Generally, volatility can be measured in two different ways. The first method is based on historical volatility, using historical prices over a specific time period for statistical calculations. This process involves calculating various statistics such as mean, variance, and finally standard deviation.
The second method, used by the VIX, is to derive the value from the volatility implied by the option price. An option is a derivative instrument whose price depends on whether the current price of a particular stock will move enough within a given period of time to reach a specific level (called the strike price).
Since the likelihood of such price movement within a given time horizon is represented by the volatility factor, various option pricing methods, such as the Black-Scholes model, include volatility as an important input parameter.
Given that option prices are available in the open market, investors can use them to deduce the volatility of the underlying security. This volatility implied or derived from market prices is called forward-looking implied volatility (IV).
VIX is the first benchmark index launched by CBOE to measure market expectations for future volatility.
As a forward-looking index, it is constructed from the implied volatility of S&P 500 Index options and represents the market's expectations for the 30-day future volatility of the S&P 500 Index, which is considered a leading indicator for the broad U.S. stock market.
Since its introduction in 1993, the VIX has become an established and globally recognized measure of U.S. stock market volatility. Its calculations are based on real-time prices for the S&P 500 Index, and are calculated in real time from 3 a.m. to 9:15 a.m. ET, and from 9:30 a.m. to 4:15 p.m. ET. CBOE began broadcasting the VIX outside U.S. trading hours in April 2016.
The VIX value is calculated using CBOE-traded standard SPX options that expire on the third Friday of each month, as well as weekly SPX options that expire on every other Friday. Only SPX options with expiration times above 23 days and below 37 days are considered.
Although the formula is mathematically complex, the theoretical process is to estimate the expected volatility of the S&P 500 by aggregating the weighted prices of multiple SPX put and call options over a range of strike prices.
All qualifying options should have valid non-zero bid and ask prices that represent the market's view of which options' exercise prices will be hit by the underlying stocks over the remaining time to expiration.
For detailed calculations and examples, you can refer to the "VIX Index Calculation: Step-by-Step Interpretation" section of the VIX white paper.
At its inception in 1993, the VIX was calculated as a weighted measure of implied volatility for eight at-the-money put and call options on the S&P 100, when derivatives markets were in their growth stages with limited activity.
With the development of the derivatives market, ten years later, in 2003, CBOE cooperated with Goldman Sachs to update the method of calculating VIX.
It then began using a larger set of options based on the broader S&P 500 index, an expansion that allowed for a more accurate look at investors' expectations for future market moves. The methodology adopted has remained valid ever since and is used to calculate many other variations of the VIX.
When markets fall, volatility, investor fear, and the VIX all tend to rise. When markets strengthen, index values, fear, and volatility decrease accordingly.
The price movement of the S&P 500 and the VIX often show opposite trends: when the S&P 500 falls sharply, the VIX rises; and vice versa.
Note: Typically, VIX values above 30 are often associated with significant volatility due to increased uncertainty, risk, and investor fear. VIX values below 20 generally correspond to stable and stress-free periods in the market.
VIX paves the way for volatility as a tradable asset, albeit through derivatives. CBOE launched the first VIX-based exchange-traded futures contract in March 2004, and VIX options in February 2006.
These VIX-related instruments allow investors to gain pure volatility exposure and create a new asset class. Active traders, large institutional investors, and hedge fund managers use VIX-based securities for portfolio diversification because historical data shows that volatility has a strong negative correlation with stock market returnsthat is, when stock returns fall, volatility rises, and vice versa.
Like all indices, the VIX itself cannot be purchased directly. Instead, investors can invest through futures or options contracts, or through VIX-based exchange-traded products (ETPs). For example, the ProShares VIX Short-Term Futures ETF (VIXY) and the iPath Series B S&P 500 VIX Short-Term Futures ETN (VXX) are two products that track a certain VIX variant index and take a position in the related futures contract.
Note: Options and futures based on VIX products can be traded on the CBOE and CFE platforms.
Active traders using proprietary trading strategies and advanced algorithms use VIX values to price derivatives based on high-beta stocks. Beta indicates how much a specific stock's price moves compared to a broader market index.
For example, a stock with a beta of +1.5 means that it is theoretically 50% more volatile than the market. Traders betting on options on this high-beta stock utilize the VIX volatility value at the appropriate scale to correctly price their options trades.
As the VIX grows in popularity, CBOE now offers several other variations that measure broad market volatility.
Examples include the CBOE Short-Term Volatility Index (VIX9D), which reflects the nine-day expected volatility of the S&P 500; the CBOE S&P 500 Three-month Volatility Index (VIX3M); and the CBOE S&P 500 Six-month Volatility Index (VIX6M). Products based on other market indexes include the Nasdaq 100 Volatility Index (VXN); the CBOE Dow Jones Industrial Average Volatility Index (VXD); and the CBOE Russell 2000 Volatility Index (RVX).
The CBOE Volatility Index (VIX) indicates the level of fear or stress in the stock market - using the S&P 500 as a proxy for the broad market, and is therefore widely known as the "fear index." The availability of real-time news coverage may stimulate irrational investor behavior. The higher the VIX, the greater the level of fear and uncertainty in the market, with levels above 30 generally indicating great uncertainty.
Like all indicators, the VIX cannot be purchased directly. However, investors can trade through futures contracts, exchange-traded funds (ETFs), and exchange-traded notes (ETNs) that hold these futures contracts.
Yes, it will. Volatility is one of the major factors affecting stock and index option prices and premiums. Because the VIX is the most widely followed measure of broad market volatility, it has a significant impact on option prices, or premiums. A higher VIX means the option is higher priced (i.e. the option premium is more expensive), while a lower VIX means the option is lower priced or the premium is cheaper.
Downside risk can be effectively hedged by purchasing put options that are dependent on market volatility. Savvy investors tend to buy options when the VIX is relatively low and put option premiums are cheap. Such protective put options often become expensive when the market declines, so, like insurance, they are best purchased when the need for such protection is not obvious (i.e. when investors believe there is less risk of a market downside).
The long-term average of the VIX is around 21. High levels of the VIX (usually above 30) can indicate increased volatility and fear in the market, often associated with bear markets.
The CBOE Volatility Index (VIX) quantifies market expectations for volatility, providing investors and traders with insights into market sentiment. It helps market participants assess potential risks and make informed trading decisions, such as whether to hedge or enter directional trades. While the VIX itself is an index and cannot be traded directly, there are a variety of funds and notes that investors and traders can participate in to gain exposure to the index.
[1] Cboe. “Cboe VIX White Paper: Cboe Volatility Index,” Pages 3–4.
[2] Cboe. “Cboe VIX White Paper: Cboe Volatility Index,” Page 5.
[3] Cboe. "VIX Index Historical Data."
[4] Robert E. Whaley. "Understanding VIX," Click "Download PDF," Page 2.
[5] Cboe. “Cboe VIX White Paper: Cboe Volatility Index,” Page 4.
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