The Cboe Volatility Index (VIX), aka “Fear Index,” is treating investors to a rare moment of calm not experienced since 2019. And as Investors are certainly enjoying this, the stock market is giving them even more to love. This is because stocks have also been on a tear this year. It’s the classic Goldilocks situation where the major indexes are hovering near all-time highs, yet volatility has disappeared. It’s unusual for the market to show no signs of worry that typically accompanies new highs and economic uncertainty. There is just a lot to feel good about.
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What Does the VIX Measure?
The VIX measures the expected volatility of the S&P 500 (SPX) over the next 30 days. It essentially reflects investor sentiment – a high VIX indicates fear and anticipation of a bumpy ride, whereas a low VIX suggests calmness and a smoother path ahead. While the VIX is a forward-looking indicator, it’s not a crystal ball. Still, it has earned its reputation as a predictor of volatility, so investors and traders have come to rely on it for different reasons.
Unlike investors, many short-term traders prefer volatility as it equates to movement, which creates opportunity. But for investors slowly riding a market to higher highs, there is a lot to like about the low VIX.
Why Are Investors Cheering a Rock Bottom VIX?
So, why is the currently low VIX exciting investors? It boils down to a sense of security. With the VIX this low, investors are less worried about sudden market downturns. This translates to a willingness to stay invested and potentially even increase exposure to the market, further fueling a rally.
This key gauge of market volatility closed Friday at its lowest level this decade. This decline in the VIX reflects a period of relative calm in the stock market, with the S&P 500 having taken back its April losses and marching higher than ever. In fact, aside from a brief spike in April, the fear index has been subdued all year.
This subdued volatility can be attributed to a much lower demand for investor hedges to protect against a market selloff. Typically, the VIX and the S&P 500 have an inverse relationship, and with U.S. stocks up 11% this year, there has been little interest in paying for protection to hedge against losses.
Defensive Sectors Take the Lead
Interestingly, the current market rally is being led by defensive sectors like consumer staples and utilities. These sectors are typically seen as safe havens during economic uncertainty. Their strong performance, coupled with the low VIX, suggests broader market confidence and a potential for further gains across the board. Indeed, seven of the 11 sectors in the S&P Index are still trading below their 52-week highs, which suggests room for broader gains across other sectors.
Key Takeaway – A Cautiously Optimistic Market
A low VIX and the current strength of defensive sectors paint a picture of a cautiously optimistic market. Optimism often travels to more risky sectors and leads to broader gains overall. While the VIX isn’t a foolproof predictor, its current reading offers a possible long stretch of relief for investors and could be a sign of continued market growth in the coming months.
