VXN Index Volatility Forecast (15/05/2011)

The VXN Index went through an extremely choppy week where the sideways movement was the leading “feature” of the implied volatility of the Nasdaq Index. Specifically, the VXN opened at 18.3% dropped at 17.1% on Thursday but it suddenly rose to 18.3% on Friday.

The actual volatility is around 4.3% (14.5% monthly) and the TGARCH curve is now displaying a downward sloping curve which is clearly trying to complete the mean revert process and settle around the 4% level ( 13.8% monthly).

The last week we were expecting the VXN Index to head south and our forecast proved correct at least until Thursday because the Friday’s closing price was as extreme as unexpected.

The positive correlation between the stochastic volatility of the VXN and the implied volatility of the Nasdaq Index suggests that the next week is going to see an ulterior flattening of market fluctuations which should favour the underlying market. However, the volatility has been low for quite a while and we believe that the conditional standard deviation will soon explode and bring the VXN Index towards higher values.

The HyperVolatility team remains bullish on the VXN because the implied volatility Index is still trading within the last quartile and, at this level, an ulterior rise is much more probable than another drop. We believe that the VXN is going to decrease in the first half of the week and then suddenly rise up again because, by the next Friday, the implied volatility should achieve the 20% – 20.5% threshold.

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