Low Volatility Could Be a Safety Net

The CBOE Volatility Index (VIX) has been well below its long-term average (of around 20), according to a recent article in Barron’s, which suggests that this might not necessarily be a bad thing for the stock market.

The article says that, given the world’s current state of chaos, we might expect volatility to be higher. But the VIX, it says, is based on investors’ perceptions of “perceived certainty—or lack thereof”—regarding future returns,” adding that analysts are expecting continued growth in corporate earnings.

Such a consensus bodes well for the VIX to stay low, the article argues, citing findings by Nomura Instinet quantitative strategist Joseph Mezrich showing a “tight” correlation between dispersion (the difference among analysts’ earnings estimates) and the VIX. “Analysts don’t have to be right” it says, adding, “What does matter is that they are in agreement.”

According to Mezrich, investors should fear high volatility, and a low VIX creates a “buffer of safety for the market, so that stocks can get more volatile without it meaning the end of the bull market.” This generally happens, it says, when the VIX has not only crossed about 20, but also “stays there for at least a few months.”