One tool you can use as an investor is the VIX. VIX is the
symbol of the Chicago Board Options Exchange (CBOE) index that
tracks the volatility of the S&P 500. It is sometimes referred
to as the “fear index”. The VIX reflects the market’s expectations
for the volatility of the S&P 500 index over the next 30
days.
Rather than showing you whether the market is about to go up or
down the VIX gives some indication as to how likely the market is
to move in either direction. The higher the VIX goes the more
investors are expecting a move, up or down, in the S&P 500.
The VIX is calculated by taking by taking into account the
implied volatility of both call and put options on the underlying
stock index. There are two other “fear indexes” you might also want
to keep an eye on: The VXN tracks the volatility of the NASDAQ 100
and the VXD tracks volatility of the Dow Jones Industrial Average
(DJIA). Together they can give you a good idea of investors’
expectations of volatility over the short run.
Usually a VIX value over 30 is an indication of high
expectations of volatility, whereas a value of less than 20
indicates less stress in the market and little chance of big
swings.
If you expect a lot of volatility coming soon but you’re unsure
in which direction the market is going to head you can still use
these “fear gauges” to your advantage. There are exchange traded
notes (ETNs) available to track the VIX index. Yes, you heard
right; an asset that tracks the performance of an index that tracks
the expected volatility of another index that tracks the
performance of 500 stocks. VIX trading isn’t for everyone but if
you know what to look for you could profit quite handsomely by
taking advantage of the overall sense of uncertainty in the
market.