Saturday, March 20, 2010

WSJ ARTICLE on the VIX as a Predictive Indicator of the Market's Future Direction

VIX: The VIX has been moving continuously under 20 since 2/25/2010. Last Friday marked the 16th straight day of movement below the 20 demarcation line. ^VIX: Historical Prices for VOLATILITY S&P 500 This movement does not signal in any respect what will happen Monday or next week. My Vix Asset Allocation model is not a short term directional indicator for the S & P 500. Its primary purpose is to alert the investor that a bull market may be coming to an end and to reposition their stock portfolios in accordance with their unique situational risks. It also has signaled historically the start of a bull cycle lasting for several years with buy signals in 1991 and 2003.

I read today an article in the WSJ, written by Tennille Tracy who was assisted by Brett Arends, that has totally misinterpreted the big picture predictions made successfully by the VIX and consequently draws incorrect conclusions. These journalists believe that the fall in the VIX into October 2007 proves that the movement in the VIX gave the wrong signal of a pending bear market. The VIX had already given its signal to reduce one's exposure to stocks in August 2007. The VIX gave what I call an Alert in February 2007, followed by a Trigger Event in August 2007, both directly tied to subprime news. A counter-move in the VIX after the Trigger Event to below 20 is normal historically, and will provide an investor an opportunity to sell at higher prices. I view the article to be so misinformed that I felt the need to send the following email to the author:

"Since 1990, the VIX has indeed provided correct signals as to when to add or to reduce exposure to stocks, contrary to the statements made in your article. If you superimpose the model discussed in this post, you would have sold your stock positions in October 2007:

Vix Asset Allocation Model Explained Simply With as Few Words as Possible

VIX Chart from 2007: Alerts and Triggers Major Disruption of Cyclical Stable Bull VIX Pattern


The spikes in the Vix in February 2007 and August 2007 were clearly tied to the developing subprime crisis. The Vix can not be used to make short term predictions. The mere fact that it is moving below 20 now does not tell me what will happen next week. However, if it continues to move below 20 for 3 months, this has historically been a 100% accurate indicator that a bull cycle lasting several years has begun. As long as the movement continues below 20 thereafter, I am comfortable holding my stock positions. Once that movement below 20 is broken by a spike to or close to 30, I will reduce my stock allocation when there is a countermove in the VIX below 20 which is typical. It just will not last for long, once the stable vix pattern is broken, before a unstable VIX pattern starts characteristic of an ongoing bear market or a transition from a bull to a bear market. The model would have signaled correctly a green light in 1991 and 2003 coming out of the cyclical bear markets of 1990 and 2000-2002 and would have signaled a need to reduce stock exposure a few months before the 1987 crash using the volatility numbers for the S & P 100. Anyone who can not see this obvious pattern is simply not doing a basic job of research before writing an article.

VIX and S & P Compared 1990 to 1997

More on the Vix Model: What it Does not Predict is as Important as What it Does/Parallels to VXO 1987-1988

Multiple Confirmations of VIX Model-Canary in a Coal Mine"

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