Category Archives: Definitions

Why Is The VIX So Weak?

*Update Aug. 16th: FTAlphaville takes my thinking a bit further. (here)

Sometimes I can’t help but wonder.

Watching an obviously weak S&P, I was expecting the VIX to be climbing, but to understand why the VIX is falling it’s worth a refresher on how the VIX functions and wikipedia does a decent job (here).

The VIX is quoted in percentage points and translates, roughly, to the expected movement in the S&P 500 index over the next 30-day period, which is then annualized. For example, if the VIX is 15, this represents an expected annualized change of 15% over the next 30 days; thus one can infer that the index option markets expect the S&P 500 to move up or down 15%/√12 = 4.33% over the next 30-day period. That is, index options are priced with the assumption of a 68% likelihood (one standard deviation) that the magnitude of the change in the S&P 500 in 30-days will be less than 4.33% (up or down).

VIX 6 Month Chart
The short answer to this curiosity is: option traders are NOT expecting higher volatility over the next 30 days even with the downturn in the S&P, which often (but not always) signals higher volatility and hence a rising VIX. In other words, option traders are not expecting the S&P to deviate up or down greater than 4.12% over the next 30 days (based on the VIX at 14.23) and that translates to 5.77 points on the S&P and 57 points on the ES.

The VIX and option traders are saying today that the S&P should be bound by 134 and 146 over the next 30 days.

This 6 month chart of the VIX is interesting because at the moment the VIX is low and options are relatively cheap.

I’m often bearish during periods that feel complacent, though traders have a real dilemma with the VIX at 5 year lows and the S&P at 6 month highs. For me the obvious response is reversion to the mean, only time will tell.

What is the Chicago Fed National Activity Index (CFNAI)?

A monthly index designed to gauge overall economic activity and related inflationary pressure.

Today’s print (May) fell to -0.45 which has economic activity in negative territory for 3 consecutive months.

This is directly from their website.

The CFNAI is a weighted average of 85 existing monthly indicators of national economic activity. It is constructed to have an average value of zero and a standard deviation of one. Since economic activity tends toward trend growth rate over time, a positive index reading corresponds to growth above trend and a negative index reading corresponds to growth below trend.

The 85 economic indicators that are included in the CFNAI are drawn from four broad categories of data: production and income; employment, unemployment, and hours; personal consumption and housing; and sales, orders, and inventories. Each of these data series measures some aspect of overall macroeconomic activity. The derived index provides a single, summary measure of a factor common to these national economic data.

The CFNAI corresponds to the index of economic activity developed by James Stock of Harvard University and Mark Watson of Princeton University in an article, “Forecasting Inflation,”(external-pdf) published in the Journal of Monetary Economics in 1999. The idea behind their approach is that there is some factor common to all of the various inflation indicators, and it is this common factor, or index, that is useful for predicting inflation. Research has found that the CFNAI provides a useful gauge on current and future economic activity and inflation in the United States.

Head and Shoulders on the SPY

Jamie Dimon in the background… Everybody is looking at this chart today.

The famous head and shoulders, one of the best known charts  for traders. Some trade them, some don’t but here’s a context and an observation based on the head and shoulders curently in place.

SPY Head and Shoulders

Volume is the highest during the left shoulder, which is the case and supports a bearish stance. If price breaks under the neckline around 131 we should see a continued downtrend. If you’re bearish, as I happen to be I’m monitoring the 131 level.

There’s a very good description of this pattern here.

I think a good trade idea would be a July bear spread 133/127. A voir.

Good Trading.

Stop Dimentia – Definition

Stop Dimentia is the act of setting your stop at the low tick before a bounce. It’s a paranoid dysfunction of the trader’s frontal cortex manifesting in a stop placed perfectly the cycle bottom.

Stop Dimentia

Repitition results in unwarranted family stress.

EUR.USD Trade Idea (Wolfe Waves)

The EUR.USD is very close to my heart.

Consuming in Euros while living in France, paying French taxes (and French gasoline prices) drives me to subconscious conversion between Euros and Dollars. I’ve written about the 10$ per gallon prices at the pump (here). But with the crisis unfolding and the VIX spiking this morning, I’ve been looking for good trades in the EUR.USD, Gold and Silver.  One possible interpretation, using the Wolfe Waves methodology would target $1.17 – $1.20 for a bounce and with some consolidation an entry in between $1.19 and $1.22.

Here’s the chart.

Euro US Dollar Chart 1 Yr.

Wolfe Waves is a particular methodology that I have in mind from a book titled Street Smarts by Connors and Raschke. If I have more time tonight I’ll explain the methodology.

SMP – Securities Markets Programme

Managed by the ECB, the SMP is defined as follows (link):

Interventions by the Eurosystem in public and private debt securities markets in the euro area to ensure depth and liquidity in those market segments that are dysfunctional. The objective is to restore an appropriate monetary policy transmission mechanism, and thus the effective conduct of monetary policy oriented towards price stability in the medium term. The impact of these interventions is sterilised through specific operations to re-absorb the liquidity injected and thereby ensure that the monetary policy stance is not affected.

On Balance Volume (OBV)

The On Balance Volume indicator (OBV) combines price and volume to determine whether price movements are strong or are weak or possibly lacking conviction. The On Balance Volume calculation is as follows:

  1. On an up day, the volume is added to the previous day’s OBV
  2. On a down day, the volume is subtracted from the previous day’s OBV.

The OBV indicator is interpreted as:

  1. Increasing or decreasing price accompanied by increasing volume, confirms the price trend.
  2. Increasing or decreasing price accompanied by decreasing volume, indicates that the price movement is weak and lacking conviction.