According to a well-known investment firm’s analysis of the VIX, the stock market has yet to experience the capitulation that often signals the end of a bear market.
By capitulation, I am referring to the deep despair that causes investors to abandon stocks. While not every bear market ends in capitulation, most do. So Wall Street analysts are scouring the historical record for reliable indicators of capitulation.
VIX — CBOE Volatility Index
—reflects options traders’ expectations for the S&P 500
volatility in the following month, with higher levels indicating greater expected volatility. Since 1990, the first year for which the CBOE had historical data on the VIX, its highest close ever was 82.69 (in March 2020). Its lowest ever close was in November 2017 at 9.14. It is currently at a low of 20.
Recently analysis by equity strategists at BNP Paribas concluded that the VIX is a reliable indicator of market investment and is therefore useful for determining whether a bear market has ended. They found that the average VIX at past bear market lows was 40.5, which is much higher than VIX highs (at least for now) during the current bear market. (which is 36.45). Furthermore, since the company found that spikes “occur on average around the same time as the market bottomed,” it concluded that the bear market had not bottomed yet.
The company’s argument seems logical, as the VIX has stubbornly refused to skyrocket during this bear market — no matter how much volatility the market has endured. Let’s see what happened on December 15th, when the stock market suffered its biggest drop in three months — with the Dow Jones Industrial Average
down more than 750 points. VIX that day closed up only 1.69 points, at 22.83. This close is 74order percent of the historical distribution of the VIX since 1990, which means that 26% of daily closes over the past 32 years are higher. This certainly suggests that we have not yet experienced capitulation.
However, investors should not bet too much on this message from VIX. The average VIX level determined by BNP Paribas at past bear market bottoms – 40.5 – shows false accuracy, as it is in fact in the middle of a wide range.
Consider the VIX’s position at the bottom of eight bear markets since 1990 in Ned Davis’s calendar of Bull and Bear Market Research. It ranges widely from 28.14 to 61.59. In fact, in two of those eight indexes, the VIX is below what it hit both spring and October 2022. Therefore, it seems a bit difficult to conclude with confidence, from the VIX itself. , that the bear market did not bottom out at the market’s spring or October lows.
This wide range is also illustrated in the chart above, which reports the next 12 months of S&P 500 returns as a function of the VIX. Although average returns are correlated with VIX levels, notice from the green columns the difference between the stock market’s best and worst returns. Any bet based on the data of this chart will have to be a low confidence bet.
Consider what happened during the global financial crisis. Prior to GFC, the VIX had never risen above its 40s highs. So when the VIX rose to that level in October 2008, many of the market timers my custodial firm placed confidently bet that the bear market is at or near the end. They were wrong. Stocks continue to slide. The November 2008 VIX will spike to nearly 90, and the bear market won’t end until next March, when the S&P 500 is nearly a third lower.
Consider also the notion that a spike in the VIX indicates a bear market bottom is near. For each bear market since 1990 in the Ned Davis Research calendar, I calculated the number of days from the day the VIX peaked until the day the bear market ended. The average is 57 calendar days, or almost two months. In the case of a bear market, the top of the VIX occurred on the same day the bear market hit its lowest, in another case, 171 calendar days (nearly six months) took place between the top and bottom. Again, that’s a pretty wide range.
So even if the VIX in recent days has spiked enough to indicate capitulation, we still cannot conclude that the bear market is over or about to end.
These observations are not intended to criticize the PNB Paribas study. Since there is no unified definition of surrender, any attempt to measure it is imprecise. This is why some analyzes have suggested that capitulation has occurredwhile others — such as the one from PNB Paribas — suggest not.
Bottom line: The picture is mixed, but that’s hardly surprising. There will never be a case where all indicators point in the same direction. On the one hand, it is true that if the VIX moves much higher in recent sessions, the weight of the evidence will lean more towards believing that the bear market is coming to an end. But on the other hand, such an inclination would be extremely small.
Mark Hulbert is a regular contributor to MarketWatch. His Hulbert Ratings tracks investment newsletters that pay a flat fee to be audited. He can be reached at [email protected]