Although there is more than one way to interpret volatility, the simple fact is that the S&P 100 Volatility Index (VIX) and the Nasdaq 100 (VXN) trend lower when the market trends higher and trend higher when the market trends lower. In other words, these indicators actually trend and move inverse to the underlying indices.
VXN broke below its 200-day SMA in Dec-02 and remained below for over a year. Similarly, VIX broke below its 200-day SMA in Mar-03 and remained below for almost a year (red arrows). These breaks coincided with a strong and sustainable uptrend that lasted from Oct-02 to Jan-04 in NDX and from Mar-03 to Mar-04 in SPX.
A little intuitive reasoning would suggest that upside breakouts in VIX and VXN would be bearish. VIX is leading the way higher with its second break above the 200 day SMA in three months. VXN was turned back at the 200-day SMA in March, but broke above with a gap higher on Tuesday (red arrows).
Contrarians may argue that more fear is actually bullish. However, it is also abundantly clear that the OEX and NDX move inverse to VIX and VXN. As fear increases so does selling pressure and this drive stocks lower. An important trend change appears to be afoot in these volatility indices and this is likely to adversely affect on stocks.
