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How the market works - VIX and subsequent performance - January 22, 2013 Page 1

How the market works

"VIX and subsequent performance"

This study has been updated and corrected; please disregard the version dated January 19, 2013.

Contents

Summary ....................................................................................................................................................... 2

Does the VIX Index contain any information about future stock market performance? ............................. 3

Conclusions ................................................................................................................................................... 4

Appendix: Scatter charts ............................................................................................................................... 5

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Summary

Investors are misled in their widespread beliefs about the VIX(volatility index). Correlation between the VIX Index (VIX) and future stock market

performance is basically zero. VIX has no predictive value; it is a function of historic (realized)

volatility and market expectations of future volatility. Those

expectations might or might not materialize.

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Lightho

How the market works - VIX and su

Does the VIX Index cont

performance?

To answer the question we analyze

various time intervals since 1990. If

would expect to see a scatter cloud

use Investment Management

bsequent performance - January 22, 2013

ain any information about future

d daily data for the VIX Index and the S&P 500 Inde

the VIX and future stock market performance wer

resembling a Brownian (or random) motion:

Looking at performance one month after

we observe a scatter cloud resembling a

R-squared is basically zero, indicating no

between a certain VIX level and future p

Page 3

tock market

x, looking at

unrelated, you

the VIX reading,

Brownian motion.

correlation

rformance:

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How the market works - VIX and subsequent performance - January 22, 2013 Page 4

The same is true for all other time horizons tested (40, 60, 100, 120, 150, 200 and 250 days from VIX

reading, see appendix):

Below you find a practical example on why the absolute level of the VIX does not contain and

information about the future. This is a chart of the S&P 500 Index and the VIX Index during the 2008/9

financial crisis. While the VIX peaked in October and November 2008, the S&P 500 did not bottom at

those dates (850 and 750 points).

When the market finally found its bottom (March 2009), the VIX had already cooled off substantially to

levels around 40-45.

Conclusions

According to widespread belief, VIX and S&P 500 are supposed to be have a high inversecorrelation ( suggesting you should buy at high VIX level ( since "fear" is high and hence prices

low). That is true for backward-looking data only.

However, the last two decades suggest the VIX contains zero information about future stockmarket performance.

Investors should not be fearful of a low VIX as such periods can continue for extended periods oftime. Stock market performance can be as high as +40% in the 1-year horizon for VIX levels

between 10-20%.

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Appendix: Scatter charts

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Disclaimer: It should be self-evident this is for informational and educational purposes only and shall not be

taken as investment advice. Nothing posted online or published otherwise shall constitute a solicitation,

recommendation or endorsement to buy or sell any security or other financial instrument. You shouldn't be

surprised that accounts managed by Lighthouse Investment Management or the author may have financial

interests in any instruments mentioned in these posts. We may buy or sell at any time, might not disclose

those actions and we might not necessarily disclose updated information should we discover a fault with our

analysis. The author has no obligation to update any information posted here. We reserve the right to make

investment decisions inconsistent with the views expressed here. We can't make any representations or

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