Is the VIX broken?

June 23, 2014 04:40 AM
Fibonacci Forecaster

The VIX is broken and other true classroom flubs and fluffs. I’m probably dating myself but that was a great comic strip when I was growing up in the New York newspapers in case you were wondering.

Last week several reputable stock market sources stated the VIX is a broken instrument. On the surface that appears to be true. But with some of these things you really have to dig below the surface to understand what it is telling us. I’m going to show you this chart and then you’ll realize how you really have to take the personalities on television with a big grain of salt. Okay, it’s time to tell the truth.

From November 2003 (the big red candle) when the VIX turned down for good last decade it began a streak of being mostly complacent for 38 months. Now from the peak of the bad old days of the Black Swan debt ceiling debacle of 2011 we are only down 34 months. If you really want to press the point from the acceleration of the complacency you look back to that red bar in June 2012 and from that point only 24 months have elapsed.

And the VIX doesn’t work anymore?  If you really look at it that is a little premature. Seems to me that once the market peaked the VIX worked just fine. Perhaps too fine. If anything, you can see parallel eras from last decade to this one that just about proves according to market psychology we are already in a bubble. One of the characteristics of a bubble is psychology that says "this time it’s different." Sure it is. They don’t just come out and say it’s different verbatim. They speak in code language. For instance, after the market peaked in 2007 television pundits told us the market would be coming in for a soft landing. In 2011 after the Arab Spring and around the time of our Fibonacci/Gann perfect storm in May of that year the word was the economy had hit a ‘soft patch.’ Okay, so back in 1999 pundits told us it was a ‘new economy.’

They are not going to tell you it’s a new economy although it really is. It’s not exactly the kind of new economy we expected or could be proud of. After all, it’s only 7 months since the Fed started tapering.  So how new could it be? This one is setting all-time records for mediocrity. The takeaway here is anytime the crowd attempts to twist or bend reality there’s a good chance a bubble is going on. This is a real case of delusion because all you need to do is look at the picture to realize we are not even close to the kind of flat VIX we had last time yet people have decided it’s a broken instrument. So what is the delusion? The delusion is what is coming down the pike. I can’t tell you when but the stock market responds to iron rules and sooner or later we are going to have some kind of a crisis that spikes it sky high. It probably will never spike like it did in 2008 but an elongated VIX like this is not broken, it’s a warning that longer it goes, the more intense will be the correction.

For my part, I’ve tried to help you. I put up time window after time window and the market doesn’t want to cooperate. Sooner or later some people might come to the conclusion that market cycles don’t work either anymore. Just about the time people think that way may be the time they get spanked. Iron Rule: 1 is markets ALWAYS revert to the mean. It might take some time but they always will.

Before I tell you what the next delusion might be let’s take a quick look at the markets. We are now on the back end of the seasonal change point which actually hit on Saturday as we close 610 weeks off the 2002 Internet bear bottom. 

Here’s the housing chart on a monthly basis. If I showed you the daily chart you’d see its lagging some of the sectors which may or may not be important right about now. But here’s something to take a serious look at.

On a long term basis it appears the HGX is mid stage in a big ending diagonal wedge. It might need to hit a low then a new high before it completes and that might not happen for several months.  Here’s the daily, you can see its lagging as the Dow is just shy of 17,000 and the SPX continues to hit new highs.

The low that might develop out of this could play into that monthly situation above. But in the bigger picture we may be getting a very early indication of what rising interest rates might do to the housing market. That leads us to the next delusion. With a major crisis developing in the Middle East it remains a mystery just how long we can absorb higher interest rates as well as a tax on the economy in the form of much higher gas prices.

The ISIS crisis is just getting warmed up. Some of you got your feathers ruffled over the Ukraine. But I am here to tell you this bunch that is causing all the trouble in Iraq is likely the biggest cancer to hit humanity since the Second World War. Right now they are small but their intrepid leader told his former US Army guards that he will ‘see them in NY.’ People should be taking that seriously. Once upon a time a guy with a weird mustache wrote a book called Mein Kampf and all people did was laugh. These people need to be defeated. Here’s the takeaway. If we are considering teaming up with Iran to deal with them you know the situation is serious.

Getting back to the chart, at some point higher interest rates are going to sink the housing market. Right now we see the stock market moving higher along with interest rates. How delusional is that? Time window season is coming to a close this week. Risk is abnormally high right now. I wouldn’t say we are at risk for a crash or anything like that but still a serious shake of the trees is possible if not probable. Practically nobody is looking for it.



About the Author

Jeff Greenblatt is the author of Breakthrough Strategies For Predicting Any Market, editor of the Fibonacci Forecaster, director of Lucas Wave International, LLC. and a private trader for the past eight years.