Bank of America needs to update its research.
Last week, the “Bank” published a detailed study of the Volatility Index (VIX). Long-time readers know that the VIX is the stock market’s “fear gauge.” When the VIX is high, investors are scared and they’re willing to pay a high price to insure their portfolios. When the VIX is low, investors are complacent. They’re not at all worried about the stock market.
Over time, the VIX has proven to be an outstanding contrary indicator.
Yesterday, after trading as low as 9.04, the VIX closed at 9.43. That’s the lowest closing price in 23 years.
To put it another way… Investors are more comfortable with stock prices today than they have been since 1993.
That makes me nervous.
But, enough about me… let’s get back to Bank of America…
America’s bank published a study last week that showed that between January 4, 1993 and April 30, 2017 – a total of 6,126 trading days – the VIX had traded below 10 just 20 times. The point the bank was making was that a single-digit VIX is a rare event. Or at least it has been rare over the past 24 years.
But, from May 1 through July 14 of this year – just 53 trading days – the VIX has traded below 10 on 21 occasions.
The inference is that the current environment is a rare event of low volatility.
However, since the study was published, the VIX has traded below 10 for another 8 trading sessions. So, in the past two months or so, investors have shown more complacency than they have in the past 24 years.
The stock market is unpredictable. And, extreme conditions can extend for a lot longer than you think they will. But, the one thing I’m certain of after trading the market for more than three decades is that periods of low volatility are always followed by periods of high volatility (and vice versa).
Investor complacency is always followed by fear.
So, with the VIX at its lowest level in 24 years, traders should be on the lookout for a shift towards the “fear” side of the equation.
Risk often happens fast in this sort of situation. Large stock market declines happen suddenly – as if from out of nowhere.
Traders should be aware of this. There’s a lot more risk in this stock market than is reflected with a VIX trading below 10.
Best regards and good trading,
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