What is Volatility in Stock Market?- Understanding VIX
Created on 09 May 2022
Wraps up in 5 Min
Read by 3k people
Updated on 26 Aug 2022
What’s like surfing on a wave? Well, it depends on the type of wave, right? The higher the wave and the rougher the sea is, the more difficult it is to maintain balance.
Riding the market volatility is just the same.
Thud! Here comes the sub-prime crisis!
Thud! Here comes the Covid19 crisis!
Thud again! Here comes the Ukraine Russia war contagion.
These frequent thuds give rise to short-term market volatility. The expectation of this volatility can be measured by the Volatility Index or VIX.
So, how long has VIX been in use?
The National Stock Exchange (NSE) first introduced this index in the year 2003. It was the Chicago Board Options Exchange that first introduced this concept ten years before NSE’s introduction to measuring volatility.
But before getting into that, what does volatility really mean?
What is Market Volatility?
The market moves upward when investors are on a buying spree. Similarly, it moves south when there’s a selling spree. Now, when you can’t gauge the short-term emotion of investors, there's uncertainty. Also, when market emotions swiftly change from buying to selling and are drastic, you experience market volatility.
Market volatility means uncertainty or unpredictability about where the stock price would move. The prices of stocks might suddenly or unpredictably move upwards or downwards. In both cases, managing the balance can be difficult.
Also, this is the very reason we say “we cannot time the market.”
Let us understand the aspects of share price volatility in detail:
How do you know that the market is volatile?
How are waves measured? We can compare wavelengths and measure the acceleration of waves with the help of a buoy.
Similarly, the VIX index is like a buoy for measuring market volatility. VIX is the Volatility Index for India. It is also popularly known as the ‘fear gauge’ since it measures the fear of volatility among investors. It was developed to measure the volatility of the Nifty50 index.
With the market dramatically moving upwards and downwards, the VIX index measures the expectation of volatility in the near term. This near term projection of volatility is for a period of 30 days.
If the VIX value is higher, it means more volatility can be expected in the coming thirty days. Similarly, if the VIX value is lower, the market expectation of volatility will be lower during the same period.
So, how do you react to the value of VIX being high?
Vix that causes khich-khich to your investments
Do you remember the time when the first covid19 lockdown was announced in March 2020?
Can you predict what would have been the volatility expectation at that time?
The expectation of market volatility was very high and the VIX index touched the value of 66.04 points. I know, right!
But then, why is that a higher value?
It is indeed a greater value because the VIX index usually hovers anywhere between 15 points to 35 points.
Now, you can see why it’s that big of a khich-khich.
A High Nifty VIX value that is more than 66 means that there is way more uncertainty in the share market than usual and there might be a big plunge in the prices of stocks in the next thirty days.
The very recent spike in the VIX stock was seen with the declaration of war on Ukraine by Russia.
The inverse relationship between VIX and the benchmark indices
Why does a higher VIX figure concern us? This is because the higher it goes, the more the expectations of the benchmark indices like Nifty50 and Sensex will plunge. Such a “choppy water” warning can scare any kind of surfer. As the investor sentiment becomes positive, the VIX value comes down.
Therefore, a lower VIX value can be happy news for our stock market surfers.
So, is it all about VIX?
No, there are two more essential points to be considered while looking at the VIX figures:
1. VIX is calculated in real-time
Nifty VIX is calculated on the basis of option prices (both calls and puts) and option premiums as they are placed. Therefore, the VIX value is disseminated and calculated on a real-time basis. Thus, considering the current VIX value can give an idea about the confidence or fears among investors.
2. Not a concern for Long-term stock investors
Usually, it is the short-term investors who are more impacted by short-term market moves. However, for long-term investors, it can be a good time to average out their share buy price by buying at the plunges or selling at the time of low volatility expectation.
To know the right time to sell stocks and maximise your profits, check our 12-minute sprint course on “when to sell stocks?”.
For a long-term investor, short term market volatility might not matter much. Moreover, the historical study of the benchmark indices like the NIfty50 and SENSEX indicates that in the long run, markets always march forward.
This historical study also suggests that the prices of benchmark indices are highest when VIX figures hover around the bottom.
Are you VIX averse or VIX lover?
An investor’s perception of risk can be divided into three categories. These are risk-averse (those who avoid risks), risk-neutral (those unaffected by risk), and risk-lover (those who are more than willing to take a risk).
An important aspect of short-term market uncertainty is that there is a higher degree of risk involved in greater volatility.
Therefore, your VIX category depends on your perception of the risk in the rising VIX value and your trading style (short-term investor or long-term investor).
Suppose you are willing to use the upcoming high or low volatility to your advantage. In that case, you can be a VIX lover investor. Similarly, suppose you are a long-term investor who stays passive and doesn’t act on volatility expectations. In that case, you can be a VIX averse investor.
Whether you are a VIX averse or a VIX lover share market surfer, your time in the sea can be detrimental to your knowledge of when to come out of it. Stying invested in equities for long-term investments is important, but knowing when to sell them and book profits are more important.
Quest by Finology brings you an insightful and quick course on “when to sell stocks?”. This is a twelve-minute course that can help you figure out the right time to sell stocks to maximise your returns.
It covers behavioral aspects like avoiding investment biases and technical aspects like scenarios that trigger sell orders. Do check out this custom-tailored course for newbies in the equity investing arena and make effective stock selling decisions.
VIX will help you analyse the stock market sentiment or the expectation of the sentiment during various events. If you are a long-term investor, you need not be intrigued by short-term market waves. Staying put for the long-term by referring to, but avoiding acting on market volatility can help you build a sturdy portfolio and achieve financial goals.
By referring to VIX figures when a market uncertainty eases out, you can observe that the market marches forward in the long run. Thus, VIX is a very crucial barometer of market volatility expectations in India.
Use this VIX to know when the khich-khich is coming. Until then, happy investing!
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