Big Buzz. Little Substance: What You Need To Know About The New “Fear Gauge”

Big Buzz. Little Substance: What You Need To Know About The New “Fear Gauge”
Stéphane Renevier, CFA

10 months ago2 mins

Mentioned in story

Short-term trading options have been gaining popularity – nearly one of every two options traded on the S&P 500 now is a 0DTE, or “zero days to expiration” option. And that’s been messing with the way that market players assess volatility.

See, typical volatility gauges (like the most-watched VIX) don’t account for really short-term options: the VIX is measured based on options that expire 23 to 37 days into the future. So some traders have been complaining that the trusty old VIX isn’t as useful a measure of “fear” as it used to be. Put more simply, investors may actually be fearful, but they’re expressing that fear with different financial instruments and maturities, ones that are invisible to the ole VIX.

Enter the recently launched VIX1D index, which measures the S&P 500’s expected volatility over the next day of trading as a way of capturing shorter-term fear. You can see the difference in the chart: big spikes in the VIX1D (white line) just ahead of market-moving events, like the release of inflation data, show that investors were indeed more worried than the VIX (blue line) suggested.

Now, you don’t want to read too much into this new measure. It’s extremely volatile, it’s influenced by quirks in its methodology (for instance, day of the week has an impact), and, let’s face it, it doesn’t provide a lot of useful new information, beyond confirming that investors get worried ahead of market-moving events and amid big intraday market moves. Its swings may be useful for day traders, but the benefits are less evident for longer-term investors.

And, sure, it could potentially offer a warning signal about the risks of an impending “volmaggedon” move, where a big intraday price change forces options market makers to hedge their positions, in turn exacerbating a price move in a “doom loop”. But even then, unless you’re a day trader, you’re likely best to steer clear of all that.

So feel free to add it to your list of things to watch. But remember: when it comes to indicators, sometimes less is more, and until we find a better way to use this young indicator, the OG fear gauge is still the best thing you’ve got.



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