Stock Volatility: VIX Plays its Tricks

by Niranjan R/ BW

W
hy have the FIIs started pulling their money out of India since mid-May? The most common explanations tend to focus on macroeconomic data, especially inflation fears in the US and the expectation that interest rates in the US, Europe and Japan will continue to inch up.

This magazine had earlier advised readers to also keep an eye out for changes in the way global investors assess risk. Many economists were uncomfortable with the cavalier attitude that investors were taking towards risk at the time. Risk was being underpriced, almost dangerously so.

Take a look at ‘The VIX Gauge’. It shows how the Chicago Board Option Exchange’s VIX index suddenly leapt up around the time the emerging markets sell-off started.

What does this mean? The VIX index is based on the implied volatility of several index options in the US, and shows how volatile stock prices are expected to be in the next 30 days. It is often called a fear gauge. Generally, it is assumed that investors are complacent about risk when the VIX is below 20 and there is a sense of fear if the VIX crosses 30. It’s clear that there is more fear today than there was a month ago. The risk awareness has gone up. Heightened risk perceptions ensure that emerging market equities (among other risky assets) look less attractive for institutional investors in the money centres of the world.

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