The BCK Volatility Blog

April 2017

VIX/VXV RATIO - HOW TO IMPLEMENT IT TO INCREASE PERFORMANCE

April 23, 2017


The VIX Index measures volatility on a 30 day, or one month, basis. If you're reading this blog, chances are you are well aware of the VIX. The VIX has a sibling: the VXV Index. The VXV measures volatility over a 3 month basis. Because of its longevity, the VXV is less prone to subtle shifts in the market, but reacts accordingly during larger movements. After running multiple simulations, we were able to target an optimal range for the VIX/VXV ratio when shorting volatility (buying XIV). In addition, we computed a threshold for VIX/VXV ratio that will trigger a long volatility (buy UVXY) position. Spikes in this ratio indicate a drop in the markets and increased volatility. Take a look at a few times the VIX/VXV ratio hit highs over the past 10 years.




1. 2008: The VIX/VXV ratio spiked to its all-time high since 2008 as the Financial Crisis triggered the markets. As you can see, the ratio peaked before the markets hit bottom. This is a common theme and we use it to determine our positions. Note that the BCK Volatility Strategy returned over 300% in 2008.


2. 2011: The European Sovereign Debt Crisis caused the VIX/VXV ratio to hit its highest point since 2008. Once again, the markets hit their bottoms after the ratio peaked. Our strategy switched to UVXY and profited during these tumultuous times. During August 2011 (the time of the peak), our strategy returned ~10%.


3. 2016: January of 2016 was one of the worst starts to the stock markets in history. The Federal Reserve had just increased interest rates for the first time since 2008 and China's growth had slowed dramatically. Confidence plummeted and the VIX/VXV ratio represents that. During that December 2015-January 2016 drop in the S&P 500, the BCK Volatility Strategy returned over 11%.


Because we include the VIX/VXV ratio as one of our many signals, we are able to avoid downturns and profit off of them. No strategy is complete unless it can succeed during the ups and the downs.