VIX Index Volatility Forecast (24/04/2011)

The VIX Index went through a quite bearish week although the closing price on Monday was 16.9% whilst Saturday the 15th the Index bottomed at 15.3%. In particular, after the increase, which has been mainly caused by the American debt problems, the VIX began to drop and touched 15.07% on Wednesday whilst 14.69% was the closing price on Thursday.

The volatility of the VIX is around 6.8% (23.5% monthly) and the chart of the TGARCH curve is still displaying a decreasing process which is probably going to end soon but that will bring the conditional variance of the implied volatility index back into the 4% – 4.5% equilibrium area (13.8% – 15.5% monthly).

As we mentioned in previous analysis the volatility of the VIX Index is positively correlated to the VIX itself and therefore a collapse in the conditional variance of the Index should be interpreted as a bearish signal because the volatility, in this case, is not subject to an asymmetric process although the mean-reverting feature observed in many asset classes remains unaltered.

The HyperVolatility team is bearish on the VIX Index because we believe the Index could drop even further and perhaps touch the 13.5% – 14% area by the end of the week.

Such a scenario, would obviously favour a short volatility position in the very short term but a long volatility trade in the medium term would prove profitable because once the conditional variance touches the bottom the probability for an ulterior explosion are statistically much more.

Furthermore, if we consider that the VIX is trading in the lowest level of the last quartile the probability of a sharp boost in the medium term augments exponentially.

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