The VIX is in a Clear Buying Opportunity
The VIX is currently at a relatively low level
The easiest way to succeed in investing is by purchasing assets at low prices and exercising patience. Whether it's
Stocks following a market downturn
Bonds during periods of high interest rates
OTM options in extreme market situations
Capitalizing on such opportunities can yield significant returns. In the current market environment, characterized by resilience and relative stability, there is a potential new avenue for investors to explore: inexpensive insurance through VIX OTM call options.
The VIX (Volatility Index) serves as a measure of implied volatility in the S&P 500 for the next 30 days (I have previously written an article explaining the VIX in detail). In the words of my previous self:
"The VIX leverages this relationship by determining the level of volatility that produces the observed prices on the basket of S&P 500 options mentioned earlier. As such, the VIX is an index that represents the IMPLIED annualized 30-day volatility of the S&P 500. For instance, a VIX reading of 20 implies an annualized volatility level of 20%."
As depicted in the graph below, the VIX is currently at a relatively low level. In fact, it closely resembles the levels observed before the COVID-19 lockdowns in early 2020—an era marked by extreme complacency.
A low VIX signifies that investors anticipate minimal volatility in the future, indicating smooth sailing ahead for the stock market. Several factors contribute to this perception:
Inflation has already peaked and is now steadily declining.
With inflation receding, interest rate hikes are likely to taper off.
Previous interest rate increases have not triggered a recession, mass unemployment, or significant declines in housing prices. For the moment.
The ongoing hype surrounding artificial intelligence (AI).
In my opinion, this optimistic outlook appears to be a reasonable base case scenario, with calm and steady markets expected in the foreseeable future. However, insurance exists precisely for times when the worst-case scenario materializes, in contrast to the base case scenario where we anticipate being right. Luckily for us, a low VIX translates to low prices for VIX OTM call options, as option prices are positively correlated with implied volatility. Consequently, we can seize the opportunity to purchase insurance at a favorable cost, allowing us to sleep more soundly at night.
By acquiring VIX call options, investors gain a form of insurance that pays off if the stock market experiences a significant downturn. If the market becomes more volatile or experiences a sudden drop, the value of these options increases, offsetting potential losses in other investments. Put simply, purchasing cheap insurance through VIX provides a safety net in case the worst-case scenario unfolds.
While I believe that the market will likely remain calm and steady for the next 12 months, it is essential to acknowledge the inherent uncertainty of the future. No one can accurately predict market movements with complete certainty. Therefore, it is prudent to prepare for unexpected black-swans by taking advantage of low-cost insurance options.
As we discussed in another article, the crisis we are facing tends to be of a magnitude not seen in recent years: -
public spending exceeding 100% of GDP
skyrocketing housing prices and commodity prices
an increasingly centralized economy.
In conclusion, the easiest way to succeed in investing is by buying low and waiting. With the current market characterized by relative stability, there is an opportunity to purchase cheap insurance. The low VIX signifies a period of expected calm and minimal volatility. However, it is crucial to remember that insurance is for times when the worst-case scenario materializes. By taking advantage of low-priced options, investors can protect themselves from potential market downturns and sleep more soundly knowing they have a safety net in place.
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