The S&P 500 made a new closing high yesterday, a frequent phenomenon since the index broke out to new all-time highs last spring. Interestingly, ever since that breakout to a new all-time high, VIX spot has not made a new low below the March 14th, 2013 low of 11.05.
As the S&P 500 index made a new high last spring, we laid out our view on why the VIX might remain elevated even as the SPX moved higher in a VIX trade post from early April:
With the SPX index making all-time highs, VIX spot has moved back to near the 12 level. However, a new all-time high can sometimes be a reason for increased volatility rather than just decreased volatility, a case we laid out for our IBM trade idea last month.
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The same holds true of the SPX index today. Even if the breakout continues, we expect that there will be a sharp selloff at some point in the next couple months simply because the steepness of the ascent signals a more emotional rally.
Since then, the VIX has moved back and forth between 12 and 22, with a mini-VIX spike every few months. Since the market is at all-time highs, traders have been more willing to buy options on the index on each new breakout, either to protect gains or participate in the rally while limiting the downside risk.
The most recent VIX spike in late January/early February was quite similar in its magnitude to the prior moves in the VIX to the 20-22 area over the last year (late May/early June and late Sept/early Oct). However, one aspect of the recent VIX move stood out to me – the move higher in VIX implied volatility.
VIX implied volatility is the price of options on the VIX itself. Traders essentially anticipate how volatile the VIX could be going forward. Generally, VIX implied volatility will move higher as the VIX moves higher (and it gets more volatile). The magnitude of the recent move higher in VIX implied vol was larger than usual:
From a 2 year low in late December just below 40, VIX 30 day implied volatility hit a 2 year high in early February just above 120. As calm has returned to markets and VIX spot has returned to the 14 level, VIX 30 day implied volatility remains a bit higher than in prior instances of calm, around 60 rather than the usual move to 50 in 2013.
Long VIX structures have worked well for protection over the last year due to the relative strength of the VIX compared to the continued mark higher in the SPX index. We currently have one such structure outstanding. The increased implied volatility of the VIX is one more sign that the VIX trace out a higher range in 2014 vs. the past 2 years.