Volatility Feedback Loop in the VIX Index and Its Derivatives

Follow us on LinkedIn

The VIX index is a measure of the stock market’s expectation of volatility over the next 30 days. The VIX futures are derivative contracts that allow traders to bet on the future direction of the VIX index.  The VIX index is calculated using the prices of SP500 options. The VIX futures are based on the VIX index. The lead-lag relationship between the spot VIX and the VIX futures is an important concept for traders to understand.

Reference [1] utilized high-frequency data to examine the lead-lag relationship between the VIX futures, spot VIX, and implied volatility of VIX options. It pointed out,

…there is unidirectional causality between VIX futures, VIX spot, and the implied volatility of VIX options. VIX spot is leading VIX futures, while VIX futures are leading the implied volatility of VIX options. This indicates that the markets have a unidirectional price-discovery function between each other during volatile periods. There is no causality effect for any other time series. Empirical data shows that VIX spot values are significantly higher than VIX futures values, especially during market volatility periods, as in our sample period.

Using these findings, the authors attempted to explain the reasons behind the largest increase in volatility in February 2018,

These findings show that the existing and previous explanation attempts do not fully cover the interaction of the VIX index and its derivatives during the turbulent events of February 5th and thereafter. While synthetic leveraged structures can create and amplify market jumps, they do not explain the bidirectional lead-lag causality between the VIX spot and the implied volatility of SPX options. However, it is essential to note that the unidirectional causality from VIX spot to VIX futures to the implied volatility of VIX options is explainable by the mechanisms of volatility exchange-traded products and market participants. Given the surge in the VIX earlier on February 5th, market participants may anticipate leveraged long volatility ETPs to rebalance their holdings by purchasing more VIX futures towards the end of the trading day to maintain their target daily exposure.

References

[1] Kia Farokhnia, Joerg Osterrieder, High-Frequency Causality in the VIX Index and its derivatives: Empirical Evidence, 2022, https://doi.org/10.48550/arXiv.2206.13138

Further questions

What's your question? Ask it in the discussion forum

Have an answer to the questions below? Post it here or in the forum

LATEST NEWSLophos Holdings Inc. Celebrates Successful Conclusion of Inaugural Annual General Meeting, Confirms Board Members and Stock Options Plan
Lophos Holdings Inc. Celebrates Successful Conclusion of Inaugural Annual General Meeting, Confirms Board Members and Stock Options Plan

VANCOUVER, British Columbia, March 28, 2024 (GLOBE NEWSWIRE) — Lophos Holdings Inc. (CSE: MESC) (“Lophos” or the “Company“) is pleased to announce all matters presented for approval at the annual general meeting of the shareholders of the Company held earlier today March 28, 2024 (the…

Stay up-to-date with the latest news - click here
LATEST NEWSSome cancer patients can find it hard to tell family and friends about their diagnosis: ‘You’re dealing with this all alone’
Some cancer patients can find it hard to tell family and friends about their diagnosis: ‘You’re dealing with this all alone’

Not everyone is eager to share upsetting medical news, even with loved ones

Stay up-to-date with the latest news - click here
LATEST NEWSBattle for Disney board seats heats up as votes come in, Blackwells sues
Battle for Disney board seats heats up as votes come in, Blackwells sues
Stay up-to-date with the latest news - click here
LATEST NEWSExcellon Closes Debenture Restructuring
Excellon Closes Debenture Restructuring
Stay up-to-date with the latest news - click here
LATEST NEWSLiberty Gold Reports Year-End 2023 Financial and Operating Results
Liberty Gold Reports Year-End 2023 Financial and Operating Results

VANCOUVER, British Columbia, March 28, 2024 (GLOBE NEWSWIRE) — Liberty Gold Corp. (TSX:LGD; OTCQX:LGDTF) (“Liberty Gold” or the “Company”), is pleased to announce its financial and operating results for the fiscal year ended December 31, 2023. All amounts are presented in United States dollars unless…

Stay up-to-date with the latest news - click here

Leave a Reply