Deep Dive into the US Stock VIX Fear Index: From Market Sentiment to Investment Practice

What is VIX? A Window into Market Fear

When mentioning the US stock VIX, investors often associate it with market crises and investment opportunities. This volatility index, created by the Chicago Board Options Exchange (CBOE) in 1993, is officially known as the Volatility Index (VIX). It measures market participants’ expectations of the S&P 500 index’s volatility over the next 30 trading days.

In simple terms, a higher VIX value indicates that the market expects more intense fluctuations and higher risk; a lower VIX suggests a relatively stable market. Investors commonly use it to gauge the level of fear in the market, which is why it is also called the “Fear Index.” This also explains why Warren Buffett’s famous quote “Be fearful when others are greedy, and greedy when others are fearful” is widely circulated in finance—when VIX surges, contrarian investors see it as an opportunity.

How Does VIX Work? Unveiling the Calculation Logic

The core calculation of the US stock VIX is based on the implied volatility of S&P 500 options. CBOE collects prices of call and put options with different expiration dates and strike prices, then uses a weighted average method to integrate these data points, ultimately deriving the VIX index.

It is important to note that VIX reflects expected volatility over the next 30 days, expressed as an annualized percentage. For example, if VIX is 15, it implies an expected annual volatility of 15%, with an approximate standard deviation of 4.33% over the next 30 days, meaning there is about a 68% probability that the S&P 500 will fluctuate within ±4.33%.

Historical experience shows that different levels of the US stock VIX represent different market states:

• 0-15: Calm and optimistic market
• 15-20: Normal market condition
• 20-25: Growing concern
• 25-30: Increasing volatility
• Above 30: Market enters panic mode

Core Characteristics of the US Stock VIX

A real-time mirror of market sentiment: Unlike historical volatility, the US stock VIX provides forward-looking estimates for the next 30 days, making it a barometer of market risk appetite.

A quantifiable gauge of panic levels: When stocks experience sharp fluctuations, investors seek protection by buying options, which directly pushes up the VIX. Higher readings are often strongly associated with market panic and risk aversion.

A reference tool for contrarian trading: Since the VIX tends to peak at market lows and bottom out at highs, many traders use it as a contrarian indicator—buying at abnormally high levels and reducing positions at abnormally low levels.

Mean reversion tendency: Long-term observations indicate that the VIX exhibits mean reversion. Regardless of market volatility, excessively high VIX values tend to fall back, and excessively low values tend to rebound.

Key Historical Milestones of the US Stock VIX

The performance of the VIX during various market crises clearly demonstrates its value as a risk sentiment indicator:

During the Asian Financial Crisis (1997), September 11 attacks (2001), the 2008 financial crisis, and the European debt crisis (2010), the VIX surged significantly. Notably, during the 2008 crisis, the VIX approached an all-time high of nearly 80.

On February 6, 2018, during the US stock market plunge, the VIX broke above 30, triggering a chain reaction across global markets. During the COVID-19 pandemic in 2020, the VIX soared again to high levels, reflecting deep investor concerns about economic stagnation.

Interestingly, studies show that the VIX tends to rise before US presidential elections. During the 2020 US election, the VIX rose from a low of 20.28 in August to 41.16 in late October, then gradually declined after the election settled. This pattern reflects investors hedging against political uncertainty.

The Relationship Between US Stock VIX and S&P 500

The VIX and the S&P 500 index have a clear inverse relationship: when the S&P 500 declines or volatility increases, the VIX usually rises; when the S&P 500 steadily advances, the VIX tends to fall. However, this inverse relationship is not absolute because markets are influenced by multiple factors.

It should be noted that the VIX is primarily based on S&P 500 options pricing, so its predictive power for NASDAQ or Dow Jones indices is limited. While their volatilities influence each other, there is no direct causality. Large swings in NASDAQ or Dow can trigger market anxiety and push the VIX higher, but the reverse can also happen.

The Link Between Taiwan Stock Index and US Stock VIX

As an outward-oriented economy, Taiwan’s TAIEX VIX often correlates strongly with US VIX, influenced by international factors. The TAIEX VIX was developed by the Taiwan Futures Exchange in 2006, referencing the volatility formula from the Chicago Board Options Exchange.

Recent data shows that the TAIEX VIX has broken above 30 three times:

February 2018: The US stock plunge triggered global panic, with the TAIEX dropping 645 points, ranking sixth in historical declines, and the TAIEX VIX soaring above 30.

March 23, 2020: As the pandemic spread worldwide, the TAIEX fell 344 points to 8,900, with the TAIEX VIX reaching a high of 57, a recent record.

May 2021: Local COVID-19 outbreaks caused another sharp decline, with the TAIEX VIX approaching 40.

By 2023, as the TAIEX gradually rebounded, the VIX mostly fluctuated between 10-20, reflecting a market expectation of relative stability.

Overview of US Stock VIX-Related Investment Instruments

Since its first tradable futures contract was launched in 2004, followed by options in 2006, investors can now directly participate in VIX trading. The main VIX investment tools include:

VIX Futures Contracts: Allow investors to speculate or hedge based on future volatility expectations, with flexible delivery dates.

VIX Options Contracts: Offer more strategies for hedging or speculation.

VIX Exchange-Traded Funds (ETFs/ETNs): The most accessible way for retail investors to participate in US VIX trading. Major products include:

Key distinctions: ETFs hold actual assets and pay out at net asset value upon liquidation; ETNs are debt instruments issued by banks, carrying credit risk but generally safer from a credit perspective.

Note that products like VXX and UVXY involve rolling over VIX futures due to expiration, which can lead to value decay in prolonged low-volatility environments. They are not ideal for long-term holding.

Practical Investment Applications of US Stock VIX

Capturing event-driven opportunities: The VIX is highly sensitive to major events. Economic data releases, geopolitical tensions, or financial crises can cause sharp VIX movements. Monitoring VIX changes helps identify market sentiment shifts.

Adjusting investment strategies: When the VIX is low, markets are relatively stable, and investors might consider buying or deploying funds. When the VIX is high, increased caution, reduced positions, or hedging are advisable.

Choosing hedging tools: Rising VIX expectations can be hedged with VIX futures or options. However, high VIX levels do not necessarily mean a bear market is imminent.

Identifying contrarian signals: Historically, rapid VIX increases during a downtrend often signal a market bottom; conversely, rising VIX during an uptrend may indicate a reversal. Be aware that VIX signals are more synchronized for buy signals and lag for sell signals.

The Current Market Implication of US Stock VIX

Over the past year, the VIX mostly fluctuated between 12-20. Meanwhile, the standard deviation of the S&P 500 daily returns dropped from an average of 1% since 2010 to 0.7% over the past 100 days, a 30% decline. Recently, the VIX dipped to 12-13, about 28% below the 14-year average of 18.5.

This indicates that the market perceives the US stock market as being in a “reliable bull phase.” However, it is crucial to remember that the VIX reflects volatility expectations, not the direction of the market. Even during declines, if volatility does not increase, the VIX can remain low.

Additionally, observing VIX futures and options trading can provide further insights into investor expectations and overall market sentiment, aiding future trend predictions.

Conclusion

For those involved in US stock investing, understanding the VIX is essential. However, it is important to recognize that the VIX reflects market sentiment and volatility, not a direct prediction tool. Investors can incorporate VIX-related products into their strategies to gauge market turbulence, but must be aware of its limitations. Combining this with fundamental analysis, macroeconomic factors, and risk management will help develop more robust investment plans.