The CBOE Volatility Index, known by its ticker symbol VIX, is a popular measure of the stock market's expectation of volatility implied by famous U.S. S&P 500 index options. It is calculated and disseminated on a real-time basis by the Chicago Board Options Exchange (CBOE), and is commonly referred to as the market fear index or the fear gauge.
How to Calculate the VIX?
The expected volatility is calculated by tracking the prices paid by traders against transactions and calls on the S&P 500 options series. This information is then grouped into the so-called "synthetic option". The general variability reading is calculated based on the following aspects:
- S&P 500 market price.
-The prevailing interest rate.
-The number of days that the purchased options series expires.
- Strike prices for those options contracts.
What Does the VIX reading indicate?
The rise in the index is indication of increased uncertainty among investors, leading to volatility and confusion in trading, which mainly yields in a high volatility in the performance of various financial instruments.
If PUTs are higher than CALLs in the options, the VIX performance would highlight the decline in market performance and therefore the Index provides a sign of heightened market fears and rising uncertainty, and vice versa.
To determine when market complacency and fear are strong, some market watchers set steady oscillator levels. These levels change according to recent history. Currently, if the index rose above 30, it shows that fear is increasing. Anything above 45 shows a strong fear. Anything in range from 20 to 25 shows relative calm.
Relation Between Interest Rates and VIX
In general, high interest rates support the associated currency. High interest rates attract investors because they offer a higher return. Forex traders prefer to buy higher yielding currencies in return for the sale of low yielding currencies in order to benefit from the interest rate differential (called the Carry Trade strategy).
On the other hand, low interest rates are more attractive to traders in times of elevated volatility in global markets due to various financial and economic problems. The explanation is that low-yielding currencies enjoy a higher degree of reliability while their economies are often more stable than other countries. This approach was evident in the recent financial crisis, with low-yielding currencies making significant gains as investors scrambled for them in search of safety.
If the question remains about how VIX interact with interest decisions? The VIX is a useful tool in measuring global interest rate preferences. If the index trades below the "normal" level of 30 or less, then high interest rates are attractive to investors, and therefore the value of high yielding currencies increases. If the index jumped to the above mentioned level, traders would prefer to buy low-risk assets and thus demand for low-interest currencies would increase.
As of 08:36 GMT, the VIX index was 2.18 percent down at 19.73, where it touched a peak of 24.81 on Monday. That was the highest level since July 2018.