Fear index

We were just having a small discussion in the trading room on fear levels, and I decided to plagiarize RM's work on this subject. Sorry RM.

For those who still do not follow these charts which RM puts out everyday, you are missing out on some vital info on swing indicators.

Notice that during the last lows in June we had a jump in declining volumes, VIx and the McClellan was at -80 kind of levels.

As the MO reached the threshold level, there is no big jump in fear yet...

As I have been saying in the morning, I'm not seeing enough covering of existing shorts from the system even though we are at critical levels.Not a time to be chasing new longs....

Still 2.5 hours to go, and we'll see if there is some genuine short covering which can prompt buying.

Desi MO (McClellan's oscillator for NSE) at EOD 09 Jun 2011

Vix and the Declining volumes

If you are regular followers of RM's Market Breadth postings, you may have noticed the addition of two new tabs above the McClellan oscillator, one for the Volatility denoted by VIX and the other for declining volumes from the declining issues of the exchange.

At Vtrender, we are great believers in the MCClellan Readings with levels under zero pointing to a seller dominated market and above zero pointing to a market driven by buyers. Besides levels of -80 and below and + 80 and above have been great reversal points and generally signal a pause in the downtrend/ uptrend if not the beginning of a swing term reversal. There are also divergences, which make the art of reading the market through the McClellan simpler.

The addition of Vix and Declining volumes is to get more evidence of a market about to turn.As a rule, the Vix and the market tend to follow opposite paths, but even die-hard Vix fans will accept that the market does not always go opposite to what the Vix does every day.The reason is that many times the declining volumes of the index overrides, the action of the Vix and it is perilous to make an assumption on the index only on the action of the Vix.

Check this chart out, courtesy RM :

The charts is of the Nifty spot with declining volumes (as a continuous line in red) in the pane below, followed by the vix in blue below that and finally the McClellan oscillator in green in the last pane.

The MCClellan oscillator is at -41 as of the close yesterday, firmly in negative territory but sporting a minor positive divergence to price.

I have marked 4 points in the chart : A, B, C, D in yellow boxes.

Whilst looking at these points, lets' remember that the VIX and declining volumes should move opposite to price. If price is decreasing and declining volumes are increasing, then the down move will accelerate. On the other hand if price is increasing and declining volumes are also increasing, then the up move will in all probability fail.

Point A : Spot near 5900. Note the position of declining volumes and Vix also marked A

Point B : The market has fallen from 5700 to 5600. The vix also falls, but declining volumes are going up.The declining volumes rectify the anomaly in the Vix here.

Point C : A up-down swing of 100 points is captured through declining volumes, whereas the Vix is flat to negative

Point D :The up move of friday seems right, as vix is down, declining volumes are down and price is up.

As a rule, read Vix along with declining volumes.

The Market Breadth charts posted By RM continue to be fantastic indicators of broader sentiment in the market.

Vix

Here is some recent Vix discussion from the trading room :

The excerpt in unedited and recent :

[10:55] Shai C: a higher vix and lower price is actually a false notion of the mkts
[10:55] Shai C: does not happen all the time
[10:56] Lingaraju Haralahalli: Shai, I fully agree on that
[10:56] Shai C: maybe when people buy and sell india volatility, the corelation will be better
[10:57] Chandra Shekhar: LH... just read something on nseindia online. It is computed from option prices itself. So it should be higher because option writers are asking for higher prices and buyers are paying those prices.
[10:57] Lingaraju Haralahalli: But the VIX stops rising or falling whenever indices are abt to reverse their direction many times
[10:58] Chandra Shekhar: those of you who may be interested, here's a small writeup with a link to bigger paper ... http://www.nseindia.com/content/vix/India_VIX_comp_meth.pdf
[10:58] r m: VIX is calculated from Option premium volatility so the pain to writers means higher VIX
[10:59] Lingaraju Haralahalli: Yes may be even with wild nifty movements. But to calculate VIX as per option premiums defeats the very purpose
[11:00] Shai C: agree
[11:01] Shai C: and considering how lopsided the option mkt is, it fails to impress as a lead indicator
[11:01] Chandra Shekhar: LH... according to my theoretical knowledge, volatility is calculated over historical data but market is interested in future volatility which is better reflected in current prices at which options are getting traded.
[11:02] Chandra Shekhar: no doubt if markets are not liquid and highly competitive, such calculation based on recent premiums would tend to become meaningless
[11:02] Lingaraju Haralahalli: Yes it is playing into the hands of Option writers/market makers
[11:03] r m: @CS, it is calculated on the basis of near and next series Out of Money option spreads
[11:03] Lingaraju Haralahalli: All in all there is no level playing ground in options mkt
[11:08] Shai C: http://www.scribd.com/doc/19240573/Volatility-Index
[11:08] Shai C: another paper on india vix
[11:11] Lingaraju Haralahalli: Yes RM. You r right. There is no evil in the methodology. But we are entitled to a volatility index which will reflect on the Index movements as the presenr VIX as Shai rightly said fails to impress as a lead indicator.
[11:12] Chandra Shekhar: thanks Shai... that's a good paper
[11:13] Chandra Shekhar: LH... I believe a lead indicator is just a dream. Volatility calculated with historical data is far removed from current conditions. Atleast VIX is based on current market quotations. There is nothing else really
[11:16] Lingaraju Haralahalli: CS Yes it makes sense. Agreed

Weekend View

The talk from the just concluded trading week has been the fall in the US indices in the past two days and suddenly you had bear blogs which were blown to extinction pop out with comments and analysis and the proverbial " we told you so..". Never mind if the "we told you so" have been wrong over a 100 times in the past one year!

Don't get me wrong. I am not a bull or a bear, and this blog sides with neither.We trade the market both up and down without getting emotion in the way of up or down prices.

That being said, let's take a look at what lies ahead for the markets next week.

I'll want to take a look with you, at the fundamental side as well as the technical side for the short term.If you have been reading this blog long enough then you would know that I count for a perspective on the fundamental side of the economy on none other than our favorite Baltic Dry Index ( BDI ).For the technical side there is none better than the NYMO.

To see if the fundamentals have been deteriorating, let look at the BDI.You can catch my last post on this subject here

Certainly does not show any signs of pain or a deterioration. On the contrary it is nearing highs.

Now a look at the NYMO for the technical picture.

As you can see it is extended and ready to move up again.

Just in case you have forgotten here is the co-relation again :

With the Vix at levels of 40 thereabouts,there will be volatility for the next 2-3 sessions which can swing big, either ways.Such an environment is ideal for day trading and you should not miss out on the opportunity.

Also a drop in the Nifty from 5400 to 5000 constitutes a 9 % correction which is fairly normal in a bull market and well within the 7-13 % expected range.

The charts above show that the bottom is near.

Nifty Expiry

I had a query from Viren last week about predicting a range or a price target for expiry.

Whilst we do not really have good reliable software like max pain to get the correct expiry figure, I have found that some good old-fashioned Option arithmetic can help predict the closing price of the Nifty fairly accurately.

I had posted this information on a public forum earlier, so those who know it already, please excuse us, but for those who do not- have a pencil, paper and calculator ready.

I intended to do this post in the morning and even communicated to Viren a closing price of 5272 ( +/ - 10 points), but got stuck in my daily routine and when I saw the close, I had to leave everything aside and do this post.

Hopefully it should help you sort out the next one...

Here are the calculations. If you are good in options, you will have this figured out...Old schoolers like us used these maths to figure out if options were cheap or expensive.

We begin by looking at the VIX and the spot closing from the day before.

Step 1 : Look at the spot price from the day before ( 5225 )

Step 2 : Look at the Vix from the day before ( 18.13 )

Step 3 : Look at the days to expiry ( 1).You can do this any number of days before expiry.

Step 4 : Divide this figure from step 3 by the nos of days of the year ( 365/1 )
You get 365.

Step 5 : Take the square root of the figure in step 4 ( 19.10)

Step 6 : Divide Vix by 100 ( 0.1813)

Step 7 : Now divide step 6 by step 5.You get 0.0094.

Step 8 : Multiply step 7 by the spot price of step 1 ( 0.0094 x 5225 = 49.6 )

Step 9 : Add and subtract step 8 from step 1 ( 5175-5275)

Step 10 :Now let’s monitor the Open interest.

Since Nifty has closed at 5225, we will look at the open interest at 5200 and that at 5300.

5200 PE has OI of 6 million and the OI at 5300 CE is of 5.6 million. In view of this, we can forecast an expiry between 5200 and 5300.This also discounts the possibility of a move to 5175.

Aligning this view with our range from step 9, we can see Nifty at the upper end of the range.The high of the day was 5268 and the Nifty closed at 5260.



That's it. 10 easy steps to take expiry blues away.

Vix-Spx Update

Been 4 days since my last post on the subject and what has the SPX done- down 3 points. Sideways movement it certainly is.

Here is the updated VIX chart :


Still above my green trendline. I will stick to my prognosis for a side-ways to an up market for the near term.


Since this blog is all about inter-market relationships, I thought that it would be prudent to support my view with a chart of the US Dollar.

As you know that USD and Stocks tend to move in opposite directions on the graph, I put up this chart of the co-relation :



And here are the trendlines I have been following on the USD index:




Ever since the descending TL gave way in Dec, USD has been moving upwards, but confined within the two TL's you see in the pic.

The lower TL will have to give way for the upmove in stocks to continue.

Vix and the Spx-2

My last post here on this subject of the Vix called for a bottom in the Vix and a subsequent top in the index at 1146-1150 levels, levels which we have not seen since.

Let's look at where the Vix is today after that post.Here is a YTD chart of the VIX:



As you can see we are reaching complacency levels and it is the time to be careful in your stock selection.

Another look at the 10 year chart:

Complacency yes...but still not quite there

The McCellan is showing that the index has some more to go on the downside and we are not below my green line again.

So we will be here on the index for some more time...maybe flat to up but no major downside anytime soon.

SPX- Revisted

My last post here called for a halt in the rally at 1146 in the SPX, to be followed by about a 50 point drop in the index after it hit that level.Also noted was that the Vix had bottomed up and was wanting to resume it's journey upwards.

Let's look at where we are now. First the chart of the Spx

We are having important support ( green line)  which has been defended for the past 3 months. Also the oversold nature of the MOSC at a level last seen in October 2008, points to at least a 20 point pull back in the index in the next 2 trading sessions.

let's look at the Vix:

27.31- has been a vertical climb and now calling for a pullback.

Those who booked their shorts and carried longs would be a happy bunch on Monday.

Vix and the SPX

We are at an interesting time in the markets.

On a longer-term chart of the US Vix, we can see that complacency in the markets is at an interesting point.This particular point where the VIX closed yesterday used to be the high 'fear point' a few years back between '04-'07 when the bull market was in it's full swing. A print above the 19 level as that point was when fear was at the highest and market would resume it's bull run after the index moved below this level as can be seen in the oval points in the middle of the chart.

However between '00 and '04 and between mid '07 to today, we can see that the market has been well over the trendline, but far removed from the highs of 80 it touched in '08.So are we complacent now or are we returning to the 'fear' days.

Let's look at the index chart-SPX

Overhead are 2 important points at 1146-1170 levels.

To summarize, we are calling for a pause at these levels, just noting that VIX is a contrary indicator and should resume it's upward journey from these levels.The SPX should correct by about 50 points before it resumes it's journey upwards.