VIX Futures Spread Indicator

A price drop in the SP500 on August 1, 2024 pushed the VIX Index up to 18.59, which is pretty high compared to the prices of the VIX futures contracts.  On the same day, those futures contracts ranged in price from 17.70 for the August 2024 contract up to 19.25 for the April 2025 contract.  Getting the VIX up close to the highest priced VIX futures contract carries a statement about short term sentiment getting over extended. 

The value of VIX Index itself is determined by how traders of SP500 options are pricing volatility premium into those options.  It is a lot like how the price of earthquake insurance is higher in California than in Minnesota.  When traders see a lot of risk of prices jumping around, either up or down, the traders who are selling those options demand higher pricing.  That is what the VIX is designed to measure.

VIX futures are derivatives of a derivative.  They are a bet on what the value of the VIX Index will be at some specified future date.  And they do not necessarily echo all of the movements in the VIX.  That means there can sometimes be information in that difference, which is what this week's chart is designed to depict.  To calculate it, I first find the price of whichever is the highest priced VIX futures contract.  That highest priced contract represents the maximum future risk of where the VIX could go, at least in the minds of the futures traders willing to make that distant future bet. 

I then calculate the spread from that highest priced contract to the spot VIX.  Most of the time, this indicator has a positive value, because most of the time the VIX Index is below all of its futures contracts.  Right now the VIX Index is above some but not all of its futures contracts, and the low reading means that the VIX Index is getting up close to that highest priced contract.

There have been times in the past when the VIX has gone above all of its futures contracts, resulting in a negative reading for this indicator.  Here is a longer term look:

The last time we saw a negative reading was back on March 15, 2023, and it marked a really nice price bottom.  Other negative readings farther back also were markers of great price bottoms.  The message of such a negative reading is that the VIX Index has gone too far, sentiment has become too extreme, and thus prices ought to bounce back.  It works really well in that respect, although like any oversold reading it does not necessarily have to work immediately.  Sometimes an oversold reading can get even more oversold before it matters.

And during a protracted downtrend like what we saw in 2022, those negative readings did mark nice bottoms within the downtrend, but they did not end the downtrend, they only brought temporary relief rallies.  So just because you might see the VIX up above all of its futures contracts (making for a negative indicator reading), that does not necessarily mean a great new bull market is starting.  The life of such a message is pretty short. 

Right now, in August 2024, the stock market appears to still be in an uptrend, and we have a pretty decent oversold reading for this VIX spread indicator.  It is not the juiciest oversold reading ever, but pretty good for what you might hope to see in an uptrend.