The Relationship Between CBOE’S Volatility Index and Industrial Metals

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Commodities

A recent article in  Crain’s examining an alleged manpulation of the VIX, otherwise known as the Volatility Index, prompted MetalMiner to take a deeper look at the relationship between the index, commodities and industrial metals.

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As a reminder to readers, trading activity and the sentiment behind trading activity determines the movements of any exchange-traded product, from soybeans to gold to oil. Therefore, buying organizations may want to better understand the relationship between the VIX and industrial  metals.

What is VIX?

VIX is the ticker symbol for the Chicago Board Options Exchange (CBOE) Volatility Index. The VIX is a popular measure of the stock market’s expectation of volatility implied by S&P 500 index options. Traded on the CBOE, the VIX is known as the “fear gauge,” or the “fear index.”

As a measure of expected volatility, the VIX is calculated as 100 times the square root of the expected 30-day variance of the S&P 500 rate of return. Using this math, the variance is annualized and the volatility can be expressed in percentage points.

VIX and Commodities

Concerns for traders, however, started as a result of a recent spike in the VIX that drove investors toward billion-dollar losses. Before the index spiked, the VIX traded mostly sideways. The latest spike drove the VIX to 2015’s highs.

VIX (CBOE Volatility Index). Source: CBOE

The VIX and the CRB commodities index share a long-term negative correlation. A negative correlation means that when one index increases, the other tends to decrease. The opposite also holds true. Therefore, when commodities trade in an uptrend, the VIX tends to trade in a downtrend.

However, this correlation does not appear as strong as the commodities and base metals correlation (for example). The negative correlation between the CRB and the VIX indexes falls in the 0.7 to -0.7 range. The closer to +-1, the stronger the correlation. However, the 0.7 to -0.7 correlation still serves as a good indicator for buying organizations.

Commodities in black. VIX index in green. Source: MetalMiner analysis of StockCharts

The longer the time period, the stronger the correlation. Therefore, spikes and short-term movements may not affect the other index.

The recent spike in the VIX does not have a meaningful impact on the CRB index. Buying organizations may wish to use the VIX as another indicator of the commodities trend, particularly for the longer term.

VIX and Industrial Metals

Since commodities and base metals have a positive correlation (meaning that both move in the same direction), the VIX can serve as another road sign for base metal price movements (albeit in an inverse relationship).

Base metals in black. VIX index in blue. Source: MetalMiner analysis of StockCharts

The negative correlation also applies to the Industrial Metals (DBB index) and the VIX.

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However, the negative correlation appears stronger for commodities, particularly for the longer term. The chart above highlights the industrial metals and VIX index correlation as even stronger than the VIX-commodities correlation. Therefore, buying organizations will want to follow the VIX, particularly for the longer term.

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