Marko Kolanovic, J.P. Morgan’s global head of macro quantitative and derivatives strategy, and I were quoted in a Reuters article about the VIX bubble relative to S&P volatility although each have different views of the cause. Kolanovic is quoted in the article, “The gap between investor expectations and actual market moves is “indicating a bubble of fear and demand from investors looking to hedge or profit from a hypothetical market selloff.” My take is that the VIX is elevated because of a more pronounced smile in the implied volatility surface of the S&P500 options, SPX. The right side of the SPX smile is elevated by unprecedented call buying in single names from retail spilling into the index. The left side is high because of an increased demand for put protection. Many think the stock market is in a bubble but with few other investment options, investors buy the market and buy protection. The VIX is calculated using all options with a bid around 30 days to Friday expiration and can be very far out of the money. Currently, these wings are priced higher than normal and are driving the VIX higher. The elevated VIX is a result of the widening smile which is more about greed and FOMO than fear. The smile is systemic and may persist longer than what Kolanovic states. Also, when the smile gets to levels we see today, a correction has happened historically. The relation of the SPX implied to historical volatility is in line with historical averages. It is the derivative/kurtosis that is 2.5 standard deviations above its normal levels. This is what is driving the elevated VIX in relation to the SPX implied and historical volatility. The sea change in call buying in single stocks started in July and accelerated in November and has continued to the present. Stocks like GameStop, Tesla and AMC saw call buying at astronomical levels. Below is a look at the 5 delta call IV divided by the 75 delta call IV in Russell component stocks: The way out of the money call buying was combined with put buying and broadened the smile in the strike curve. Below is the ORATS derivative or kurtosis measurement in the SPY. The kurtosis typically lasts until a correction in the market. Thus, we should probably see an elevated VIX relative to SPX volatility until there is a correction in the market. For more on how ORATS models the implied volatility surface see this post. https://blog.orats.com/modeling-the-implied-volatility-surface-skewness-and-kurtosis
Yes, it is substantially above is historical average and median, it has some falling to do over long term, but who knows when that will happed, and how many "market freakout" spikes will happen along the way.
Is the elevated VIX now a part of the new market structure? Like after 1987 when the put skew appeared, are we going to see calls bid across underlyings now?
People think waaaay too hard about this stuff. What it means is the rules are a bit different than before. It’s what we call a change of character. It’s no more complex than that.
agree..dont look at present VIX in your 2016 thinking. Things have indeed changed alot. Think a bit more out of the box.
probably, it's becoming a new reality VIX's movement has no bearing to the real-life risk or potential risk in the markets?
So, I actually think its normal for the VIX. When bad times go to good, it tends to DROP and stay low for looooong times. Didn't it get down to the 9s during like the 2nd or 3rd year of Trump's reign? Until there is a spike event. Then it tends to stay elevated for loooooong times. With COVID we had a 30% plus fall in the market in just a few days, then a quick comeback, and its been volatile ever sense. It will eventually fall back down, but it could take months, years. When that shiat hits 11 boys, buy them long term SPY/SP500 put options to protect your nut. Then keep investing new money to not get left behind if market continues to advance.
Change of character does not mean no bearing. It’s your job as a trader to figure out what’s different. Markets don’t stay static in their behavior. They can catch you sleeping on it though. If you’re going to trade like it’s 2012, I think you can make something. But you’re certainly not trading well.