Wall Street’s ‘Fear Gauge’ Flashes Warning Signs

People walk by the New York Stock Exchange (NYSE) in New York City on June 14, 2022. Spencer Platt/Getty Images

The CBOE Volatility Index (VIX), Wall Street’s “fear gauge,” is beginning to flash warning signs regarding the markets.

Wall Street has witnessed losses over recent weeks, as inflation remains high and the Federal Reserve shows no intention of backing down on raising interest rates.

The labor market remains tight and wholesale prices climbed for the first time in three months, despite efforts by the Fed to slow the economy.

Meanwhile, Treasury yields and the competitive value the U.S. dollar over other currencies remains strong.

The closely watched volatility index has been gaining the attention of analysts, as its relationship with the S&P 500 index appears to have greatly diverged.

The VIX is the option-based measure of the S&P 500’s expectation of volatility, which hit 33.57 on Oct. 12—twice as high as it was at the start of the year, reported Marketwatch.

Both indexes share an inverse correlation, since the VIX normally rises when stocks on the S&P 500 tumbles.

The VIX hit its highest level since June when it peaked at 34.75 points, after the S&P 500 dropped to its lowest closing since September 2020.

It went down again after the markets witnessed a short recovery that ended towards the end of summer.

The volatility index had been rising again since August, surpassing 30 points in October.

Economists consider the market to be in a crisis when the VIX reaches or surpasses 40 points.

The S&P 500 was up 3.1 percent on Oct. 4 and later jumped 2.8 percent on Oct. 7, which is unusual as the index rarely makes wild upswings within less than a year.

The market’s two moves in less than a week is making some investors worry, as the rumblings are a possible sign that stocks may face a catastrophic collapse over the next few months.

A similar pattern was last observed in June, when Wall Street fell to its lowest levels of the year.

The U.S. economy has been nominally in a technical recession, after GDP declined in the first half of the year.

A ‘Golden Cross’ And A Market Crash

The VIX is on the cusp of achieving a “golden cross,” according to Marketwatch, which is when the 50-day moving average of a given asset, exchange rate, or index climbs above the 200-day moving average.

A “golden cross” typically precedes a sharp downturn on Wall Street, like what happened on September 2008, when market volatility skyrocketed in response to Lehman Brothers’ bankruptcy, said Tyler Richey, co-editor of the Sevens Report to Marketwatch.

The last time the VIX hit the “golden cross” benchmark was in December 2021.

“Using history as a guide, this is the kind of tipping point where things could get ugly,” warned Richey.

However, Forbes believes that stocks are yet to seriously display the kind of volatility that accompanies a market crash, despite being jumpy.

The S&P 500, Dow Jones Industrial Average, and the Nasdaq Composite all appear to be on the cusp of reaching the “golden cross” milestone once again, after reaching their cyclical peaks in early 2022.

Richey said that the pattern of lower highs in the volatility index could be the result of solid money investors, such as mutual funds and pension funds, liquidating their stock holdings instead of using options-based hedging strategies to protect their downside risk.

The next key “resistance” level for the VIX is 35 points, just below its high in June, Katie Stockton, a market strategist at Fairlead Strategies, told Marketwatch.

If the VIX crosses that threshold and reaches 40, Stockton predicts that there will be a massive sell-off on Wall Street, which will not stop until the volatility index hits a predicted 50 points.