What Does This New Low in Volatility Mean for Stocks?

The pundits are talking about the OEX option volatility index dropping to a very low level, and many are talking about ominous outlooks this portends.  Let's take a look at the last 20 years of the VXO.

This reminds me very much of the way things were shaping up in 2003-2004.  The economy had just had (in 2001-2003) a very serious recession, and the Federal Reserve had established emergency measures to reignite the economy.  The economy was very slow to come back, so extremely low (up until that time) interest rates were instituted.  In 2003, and as 2004 was approaching, the economy started to come back.  Banks began to lend, and businesses began to borrow.  Do you get the comparison?

The gurus began to worry that the Fed would have to start tightening (they did in June 2004).  Now listen to this!  Our Psychology Composite moved to P5, and the Value Line Appreciation Potential moved to its lowest quintile of Appreciation Potential.  Sound familiar?  Very similar conditions as the OEX option volatility index broke under a 5-year consolidation band (see rectangle in above chart).  As you look at the S&P 500 in that time, you see that the stock market spent the next 7 months consolidating (a little), but by the time the second half of 2004 came along, once again the bull market started to climb dramatically.  The VXO continued to drop (with a few small upside scares) until 2007.

Once again, we've seen that same similar drop under a 6-year consolidation in the VXO.  This is even more bullish than it was in 2003 (in my opinion), since we have also seen the price of gold (the FEAR Index) break under that moving average - combined with a breakdown in relative strength versus the S&P 500 (which you can read more about in our recent post by clicking here).  

This is a BIG DEAL!

Don Hays

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