The TEXPERS Blog

A New Volatility Regime?

By Mark Shore, Guest Contributor

From speaking at conferences and teaching workshops, I’ve noticed increased volatility conversations as investors are asking if we entered a new volatility regime. It helps to understand how equity volatility from a historical perspective behaved as it cycled across various economic environments. Over the past year, a few of my volatility studies relative to the VIX (US) and the VSTOXX index (EU) examined historical volatility and its relation to the current environment.

VIX and VSTOXX volatility indices are defined as implied volatility 30 days forward and are frequently negatively correlated to their respective underlying equity indices (S&P 500 and EURO STOXX 50 Index) as they tend to rally when equity markets decline; hence they represent negative or “bad” volatility. The price is the volatility for 30 days and then annualized. For example, VIX at 15 is the annualized standard deviation. The bottom range of the VIX is 10 to 12 with resistance often found in the 17 to 23 area.

Between January 1990 and April 24, 2019, the VIX spot index closed below 10 on 68 days during six calendar years. 2017 accounted for 76% of those days as noted in Figure 1. The lows tend to occur at the end of the year and the beginning of the next year. However, 2017 experienced closes below 10 in eight months, which carried into January 2018.

Figure 1 Frequency of Days when the VIX spot price closed below 10

Click image to enlarge.

Source: Bloomberg data as of 4/24/19

The preceding five years before 2017 and the two years following, once again demonstrate 2017 as an anomaly regarding low volatility. First, the maximum VIX price of each year is usually in the 20s or higher, as noted in Figure 2, while 2017 was just above 16. The minimum of each year has a smaller dispersion between years. However, in 2017 and 2018 were slightly above 9. January 2018 experienced the low just before the correction in early 2018 or as I call it the “compressed spring effect.” The 2017 spread between the yearly high and low stands out because it measured a compressed volatility spread of 6.9, a reduction of at least 50% or more relative to other years.

Figure 2 is the maximum, minimum, spread between max and min and the median price of VIX for each year

Click image to enlarge.

Have the equity markets moved into a new volatility regime? The data suggests the markets haven’t transitioned into a new regime but have reverted into a more “normalized” environment. Higher elevations of downside volatility along with increased volatility spikes imply potential ongoing turbulence and reviewing a portfolio’s tail risk management.

The views expressed herein do not constitute research, investment advice or trade recommendations and do not necessarily represent the views of all Coquest Advisors LLC or TEXPERS.

About the Author:
Mark Shore is director of educational research at Coquest Advisors LLC in Dallas. He has more than 30 years of experience in alternative investments, publishes research, consults on alternative investments and conducts educational workshops. Shore is also an adjunct professor at DePaul University's Kellstadt Graduate School of Business in Chicago where he teaches a managed futures / global macro course. He is a board member of the Arditti Center for Risk Management at DePaul University. Shore is a frequent speaker at alternative investment events. He is a contributing writer for several global organizations including the Eurex Exchange, Cboe, Swiss Derivatives Review, ReachX, and Seeking Alpha. Before Coquest Advisors, he founded Shore Capital Research, a research/ consulting firm for alternative investments. Shore received his MBA from the University of Chicago and is currently a doctoral candidate.