I like looking at the Volatility Index (^VIX) frequently when there are massive run-ups or drops in the market. Basically, as said in previous posts, the VIX measures the fear in the market. As the market is crashing, VIX usually goes higher because there is fear in investor eyes because of slumping stock prices.
However, if you look at the way the VIX performs against the market, when the VIX is up (a lot of fear), the market is usually in a bottoming time and when VIX is low (very little fear), the market is usually at some sort of top or on its way to it.
Simple right? Well, yeah, I suppose, but not many people tend to really pay attention to it. I personally hedge my investments by buying VXX, which is an ETF that purchases short-term futures on ^VIX so that way if there is a massive crash (i.e. 2008), my investments won’t take nearly as big a hit because VXX would also be spiking as well. This hedge does not work well in long term slow declines…it only really works with massive fear based sell-offs.
So where is the ^VIX right now? 17. How does that compare to the past? The last time we were at 17 was in July 2011. And the ^VIX went from 17 to 47 within a week or so and stayed above 30 for the next 6 months. Just to give a frame or reference, the ^VIX had only broken 40 4 or 5 times before 2008 and since then, we have been above it several times.
Either way, the ^VIX went from 17 to 40 and hovered around 30 for the next six months. What did the market do in that same period? The S&P went from 1340 and change all the way down to 1100 before finishing the year at 1240 or so. So it was a nice recovery at the end, but as you can see, the market did not fare well when the ^VIX was low.
Now does this mean the market is going to crash or correct? I don’t know. I’d love to think I don’t, but looking at history, times when the ^VIX was low was not the best time to enter the market.