In CNBC’s article “History of volatility index shows market not likely out of the woods yet — how to trade it,” Michael Khouw quotes Bernard Baruch saying, “The main purpose of the stock market is to make a fool of as many men as possible.” Volatility, a key idea in financial markets, measures how much stock or index prices change over time. It’s usually calculated by looking at the annualized standard deviation of price changes, which helps gauge market movement. There are two main types of volatility: historical (or realized) and implied. Historical volatility shows past price changes based on observed data, while implied volatility, taken from the current options market, predicts future price movements based on option prices, giving a forward-looking view.
On August 5, the Cboe Volatility Index (VIX) jumped above 50, reaching levels not seen since 2020. This sharp rise in the VIX is often seen as a signal that the market’s panic-driven sell-offs might offer buying opportunities, as markets usually correct themselves over time. Volatility tends to return to average levels, meaning periods of extreme volatility—whether high or low—often settle back to normal. For example, during the 2008 financial crisis, the VIX hit peak levels before gradually decreasing as the market stabilized.
Historical trends show that VIX spikes above 35 are rare and have rarely been followed by a long period of low volatility. In the past 35 years, no significant VIX spike has been followed by a 30-day realized volatility that falls below the historical average. This suggests the current market situation may be unusual. Therefore, while past trends hint at a possible quick rebound in volatility, the unique current conditions might make it worth considering other strategies, like buying strangles on the SPY ETF, to take advantage of potential future volatility changes.
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