What is the VIX®?

The VIX, or Chicago Board Options Exchange® (Cboe) Volatility Index, is a sentiment indicator that you might know by its more informal name: the fear index. It’s used to measure implied US stock market volatility — a somewhat technical term that translates to how strongly investors believe that asset prices will fluctuate in some future time frame. With the VIX, that time frame is the next 30 days. The VIX is an indirect way to attach a number to the amount of anxiety investors are feeling.

The VIX rises when there’s a lot of uncertainty, usually when financial markets are dropping. It falls when calmer heads prevail, usually when markets are flat or moving higher. Created in the 1990s, this index is frequently referenced in the media, especially during equity market sell-offs.

In an ideal world, investors could research and predict how financial markets will move before they buy or sell an investment. However, we know certainty about future market direction is impossible. While the VIX isn’t a crystal ball that forecasts future market moves, it does offer some clues to investors’ states of mind. Importantly, it measures investor sentiment using options trading behaviour rather than answers to a poll — actions rather than words. For that reason, it could be considered a particularly insightful indicator of expected market volatility.

The VIX is calculated by taking the prices of a series of S&P 500® index options with an average expiration of 30 days and inputting them into a fairly complex formula¹. This formula produces the VIX, a measure of expected, or implied, S&P 500 index volatility over the next 30 days. Both put and call option price data with strike prices at the money and out of the money are used as inputs.

As mentioned, retail investors can use the VIX as one tool to evaluate the current level of investor anxiety. Very high values may indicate that a particular market move is at an extreme and could reverse. However, this relationship is most obvious in hindsight and isn’t a given — the VIX can stay high for an extended period without a market reversal.

In addition, there are a number of VIX-related products available such as futures, options and exchange traded products. Professional traders and money managers may use these products to hedge their portfolios against market volatility, or speculate on market direction or volatility. However, since extreme moves in the VIX can be followed by sharp reversals, trading in VIX-related products can be complicated and risky. As always, do your research and evaluate the selected product’s risk and reward to make sure it matches your risk tolerance and investment goals.

The VIX surged during the 2008 financial crisis and the beginning of the COVID-19 pandemic in 2020. Source: Macrotrends Opens in a new window..