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3 Quick Points to Simplify the Volatility Index (VIX)
The key volatility indicator of the stock market
The Volatility Index, also known as the VIX, is a real-time market index that represents the market’s expected 30-day forward-looking volatility. Today, its value is derived from the price inputs of S&P 500 index options. The VIX is used to provide market risk and investor sentiment. It is sometimes known as the Fear Index since it rises when the market is going down.
The VIX was created by the Chicago Board Options Exchange (CBOE). In 1993, the CBOE held a press conference to announce the launch of real-time reporting of the CBOE Market Volatility Index, the VIX’s first iteration. The formula that determined the 1993 version of the VIX was tailored to S&P 100 index option prices. It was not until 2003 that the CBOE introduced the VIX’s modern methodology using inputs of S&P 500 index option prices after partnering with Goldman Sachs.
The 3 following points will further simplify the VIX:
· How the VIX Measure Volatility
· Why Investors Use the VIX
· How the VIX is Traded
How the VIX Measures Volatility
For a security like a stock, volatility is a statistical measure of the degree of variation in its trading price over a set period. If a stock has wide price swings, it is highly volatile. If the price of a stock is tight, it has low volatility.
When it comes to the VIX, its formula provides a measure of market volatility on which expectation of stock market volatility in the future can be based on. As stated earlier, it is a real-time market index that represents the market’s expected 30-day forward-looking volatility derived from the price of S&P 500 index options.
The following is the formula for the VIX:
In the formula, T is the number of average days in a month (30 days), r is the risk-free rate, F is the 30-day forward price on the S&P…
