The VIX, a trademarked ticker symbol for the Chicago Board Options Exchange Market Volatility Index, is a measure of implied volatility in the market over the next 30 days. Also known as the fear gauge, it represents how people perceive the current markets’ risk.
On June 6, the VIX actually went to a recent low of under 11, which is the lowest the VIX has been since February 2007, and close to the lowest level in its history. We all remember what happened in 2007 with the housing market bubble burst and ensuing stock market plummet, when the VIX reached 85 during the peak of the crisis. So what does it mean now that the VIX looks as low now as it did then?
There’s currently a camp that is very nervous about this. They’re saying that this low VIX is a clear signal of investor “complacency” with the stock market, which means we could be in for a world of trouble.
However, just because the perceived volatility is low does not mean that the market has to crash. Back in October and November of 2013 the VIX was under 14 (again a very low number) for 32 consecutive days. Then the S&P gained almost 2.5 percent through the end of the year.
Markets don’t crash because of a low VIX. They crash for reasons that make the VIX high, and reasons that create volatility — like fear.
Fear of war (think today’s turmoil in Iraq and Ukraine), terrorism, market bubbles popping, great recessions and the like, can all cause the VIX to rise.
I believe that today’s “complacency” isn’t a forgetful one. Investors I talk to aren’t saying, “Let’s own stocks because they are guaranteed to go up. We have no risk of losing money.” Most investors have been around long enough now to have experienced or at least know about several bear markets, and understand that the stock market cannot always promise you a positive return in the near term.
I think that investors are less complacent and more confounded.
Currently the stock market looks fairly valued, not cheap, but also not overpriced. Bonds currently have some merit due to their protective nature coupled with their ability to provide consistent cash flow. Furthermore, the US economy looks slightly better than lukewarm – but still shy of being overheated.
Perhaps we have all been on edge so long about the stock market crashing again that we don’t know how to be comfortable with a low volatility market.
Don’t just take my word for it. HSBC strategist Garry Evans was quoted in Barron’s saying, “In fact, low volatility is typically a characteristic of the “stable phase” of bull markets. At the very least, we can say that never in the 25-year history of the VIX did a bear market appear when volatility was low.”
This low VIX isn’t a necessarily a bad thing. All of this gives me the impression that investors feel comfortable enough not to sell; but not comfortable enough to bid up the price (buy more) of their existing holdings.
In my new book, You Can Retire Sooner Than You Think, I offer a solution for investors who are “confounded” as to what to do with their 401k and retirement savings. I also discuss how to come to terms with stock market and economy’s perpetual gyrations. Chapter 8 is dedicated to a strategy known as income investing – as well as a diversification approach I’ve coined the “bucket system”.
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