Douglas Battista: Fear Factor

Doug BattistaInvestors rely on many factors to help them make financial choices, says Douglas Battista. One of these is the CBOE Market Volatility Index (VIX), which is often simply referred to as the “fear gauge.” But what is it and how does it guide an investor’s decisions?

Q: What is the CBOE Market Volatility Index?

Douglas Battista: The VIX is simply a number that investors look at to determine the possible ups and downs of the stock market. You can think of it as a roller coaster where you can only see half of the ride. By looking at what the track has done, you can make a guess as to how the rest of the coaster looks. Of course, it is more complex than than that, and involves lots of precise calculations but the index is a tool investors can use to prepare for either a bumpy or smooth ride so to speak.

Q: Why is it called the “fear gauge?”

Douglas Battista: Thinking about the roller coaster analogy — if you’re looking at the track and it’s full of vertical climbs followed by steep drops, that’s going to be a little intimidating. You might feel fearful before strapping yourself in. The VIX does the same for investors.

Q: How does it work?

Douglas Battista: Stocks move and are valued in response to many factors. CBOE takes these into account and assigns a number. Historically, the VIX hovers at around 20%. Lower means less volatility; higher means more.

Q: Can the VIX predict long-term gains or losses?

Douglas Battista: Not necessarily. What it attempts to assert is simply how many swings there will be, based on 30 day activity. If you look at a VIX graph, you’ll see it follows with times of economic prosperity and nationwide financial downs. It supports short-term investment goal decision, but is not a reliable indicator of future activity beyond the 30-day mark.