The Forex Nitty Gritty

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VIX Fear Factor

Posted by TFNG Admin On March - 4 - 2014  
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The so called VIX fear index is in the news as the volume of put contracts on the Chicago Board Options Exchange (CBOE) Volatility Index rose to a level of three puts on each call contract. The CBOE Volatility Index itself is a measure of market expectation of coming price movement of the S&P 500 over the coming 30 days. It uses a weighted measure of the prices of puts and calls in the S&P index as its base. The costs of buying puts and buying calls go up with expectation of market volatility and down when traders expect a more tranquil market. When the VIX fear index is high it is indicative of a volatile market. However, an extremely high VIX has often been seen before a market rally extending over a year. Thus the VIX fear factor is not always a fear factor and can be an indicator of better times for the stock market or Forex trading as the same principles apply to volatile currency trading as well as to stock volatility.

Why Would Forex Traders Watch a Stock Options Index?

Since 2006 it has been possible to trade options on the VIX itself. Options traders expecting to see the VIX fall are the ones buying puts on the so called fear index itself. Traders can trade the VIX directly but stock traders more commonly use the VIX fear index as a guide in helping predict market trends or a market correction. Traders using Candlestick analysis for technical analysis of stocks can use the so called VIX fear index as an adjunct to understanding and predicting changes in market sentiment.

When the VIX fear index peaked recently, traders, expecting a fall from historic highs, bought puts on the index. Those trading the VIX fear index directly can use both fundamental and technical analysis. Those who simply use the so called VIX fear index as a guide will use the expectation of a decline in stock volatility into their calculations for future stock trading. The extreme stock price volatility and index volatility that the market has displayed recently seem to stem largely from concern about the potential economic effects of the European Union not solving its sovereign debt dilemma. Recent pronouncements by German and French leaders seem to have calmed the markets a little to which some credit to the likelihood of decreased market volatility. Considering how uncertain this situation still is traders will be well advised to keep up their Candlestick charts in order to accurately tap into market sentiment. As fundamentals are quickly discounted by the market traders use Japanese Candlestick charting to anticipate approaching price changes and buy stocks or sell stocks accordingly. Forex traders will watch the state of the US economy for clues as to how Forex trading will develop in coming days, weeks, and months.

Technical Guides to Trading Forex

Again it is useful for Forex traders to keep an eye on the economy and the VIX index which uses the S&P 500 as its guide. Remember when using the VIX as a guide that the so called VIX fear index does not differentiate between a high volume of puts on the S&P 500 index which indicates a potentially falling market and a high volume of calls which indicates a potentially rising market. Also remember that calls and puts on the VIX index itself have to do with expectations of higher or lower volatility, not a higher or lower stock market. No matter what the so called VIX fear factor seems to tell us, traders using Candlestick pattern formations as a guide know that market sentiment can always change and that with Candlestick signals as a guide they can profit in both up and down markets in both stock and foreign currency trading.

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