I’ve commented before on the nearly perfect inverse relationship between the S&P 500 and the VIX. When the SPX goes up the VIX goes down, and vice-versa.
A few people have written to say that actually it’s not all that uncommon for both the SPX and VIX to close up for the day, or for both to close down for the day.
Well, we’re both right. It turns out a lot depends on your time frame.
Below is a chart of the SPX and VIX, with each bar representing one minute. This is how I like to look at it. The almost-perfect inverse relationship is unmistakable.
And yet, look closer and you’ll see that on 9-3 both the SPX and the VIX closed DOWN for the day! I could say “As always, the inverse SPX/VIX relationship held almost to perfection.” And you could say “No, they both closed down.” And we’d both be right.
Far more interesting is when once in a blue moon – actually, far more rarely – you have a day such as last Wednesday July 15 (Figure 2 below). Not only was the SPX/VIX close-to-close relationship positive (they both closed up), but much more importantly, that correlation was just plain positive the whole day:
I wasn’t the only one struck by the SPX/VIX action that day – Bill Luby of http://vixandmore.blogspot.com/ wrote:
“The intraday tick for tick positive correlation between the VIX and the SPX was as strong as I have ever seen. Most of the time the VIX and the SPX move in opposite directions. Today it was almost as if someone has inverted the gravitational forces acting upon these two indices.”
What does it mean? In response to a comment, I wrote the following on July 16:
“So my best guess is that yesterday’s VIX anomaly represents skepticism that the stock market rise is for real, which is quite bullish.”
In other words, my take on it is that that day the SPX rose steadily to close almost 27 points higher. But the more it rose, the more SPX option traders refused to believe the rise could last, so the more they bought portfolio insurance in the form of SPX options, driving the VIX higher.
Rising bearishness in the face of rising prices is of course strongly bullish. And indeed, in the 7 trading days from July 15 to July 24, the S&P 500 cash index rose from 932 to 979.
Days such as July 15 – as charted in Figure 2 – occur so rarely they’re hard to study. But when you see the normal minute-by-minute inverse SPX/VIX relationship broken for an entire day, it seems clear to me that the market doesn’t buy that day’s trend. Meaning there’s a high probability it will continue for the immediate future.