VOLATILITY: VIX & VXN

VIX & VXN measure the implied volatility of the S&P 500 and Nasdaq 100, and provide us with key data for market analysis:

They represent, no more or less, the RISK PRICES that the Market expects into the future, in the short term.

Implied Volatility Is Different from Historical

When financial study texts mention the word Volatility, and explain its value as a measure of risk, they often refer to Historical Volatility.

However, in the past, it is a simple mathematical calculation, belonging to the area of statistical analysis, that measures the dispersion of the performance of a financial asset.

It is very useful to understand how financial assets have worked for any given period, but it tells us nothing about the future.

Implied volatility, on the other hand, is a MARKET PRICE.

It is determined in the options market, as the value of the options rises the higher the expected volatility.

When we trade options, we are looking to the future, so we are interested in forward volatility, not historical volatility.

But no one knows her.

Therefore, when a trader bids a price for an option (for example, on QQQ) they have to estimate QQQ volatility within the timeframe of their trade.

And come to an agreement on that estimate with the seller.

For each trade that is closed in options, there is an IMPLIED VOLATILITY  that traders have estimated to agree on their price.

So the options market provides us with valuable information: what is the risk that traders are looking to the future for each traded asset.

VIX – THE IMPLIED VOLATILITY OF THE S&P 500

So important is this fact that since 1993 the Chicago Board Options Exchange calculates and disseminates in real time the VIX, symbol of the CBOE Volatility Index.

The VIX is known as the fear index.

The higher the value that the VIX reaches, the greater the risk that the market expects into the future.

Let’s look at the graphs below, which look like mirrors.

Both correspond to the year 2008, in which the historical record of the VIX was recorded (here it is better appreciated than in the crisis of 2020, which was shorter).

The top chart corresponds to the VIX, the lower one to the S&P 500.

The correlation between the increase in VIX with the market crash is evident.

It is clear why they call it the FEAR INDEX (although sometimes it also rises because of a high demand for calls)

The VIX is calculated based on the market prices of short-term calls and puts (30 days) on the S&P500.

Here you can see how CBOE calculates the VIX (in detail)

VXN – THE IMPLIED VOLATILITY OF THE NASDAQ 100

Several years later, in 2001, the VXN, a symbol of the CBOE Nasdaq Volatility Index, began to spread, which calculates implied volatility in the price of Nasdaq 100 index options.

(To pronounce it more fluently, traders call it VIXEN )

On this site we focus our attention on this index, to analyze our investments in the market through the ETF that best emulates it: QQQ.

You can expand on this information at the following links:

How to use options to manage risks?

What is the Nasdaq 100 and how is it updated?

What is Algorithmic Trading for?

Finally, you may be interested in the following articles:

USA Microsite

Algorithmic Trading

Nasdaq 100

QQQ Portfolio

Options

Aggressive Strategies

Defensive Strategies

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