John Jagerson

Predicting Volatility With the VIX, Part II

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The CBOE Volatility Index (VIX) can be used as an analytical tool to identify entry and exit opportunities, or periods when market risk is likely to be higher or lower. This information is especially useful because it is not just another iteration of a price-and-time study, but is derived from investor expectations for near-term volatility.

The VIX is obviously useful as a way to analyze the stock market indexes, but in this article I will show that it can also be used to help identify opportunities in the intermarket environment.

See Part I of this series on trading the VIX.

The VIX has a propensity to channel, which can make analysis very easy. Channeling markets (like trending markets) are predictable, and can be very profitable when they are consistent and extended.

Technicians always struggle with the transition from a channel to a trend and vice-versa, so the VIX's tendency to channel for long periods is extremely convenient for a technical trader.

Within a channel, support and resistance levels become triggers for entries and exits, or as warnings that risk is rising or falling. (Learn more about support and resistance analysis.)

In the chart below, you can see an extended channel on the VIX from 2004-2007.

When the index approached resistance, the stock market had a tendency to rally, and it was an excellent timing signal for new entries.

Conversely, when the VIX was bouncing off support and "fear" was beginning to rise covering, long positions in the stock market was a more prudent course of action.