Ominous sign! Nifty & VIX rising together; what is it saying really?
The correlation between Indian VIX and benchmark Nifty50 is typically negative.
The correlation between Indian VIX and benchmark Nifty50 is typically negative. One would always find VIX at its low level when the index is at its high point, and the VIX at high levels when the market is trying to find a bottom.
The chart above shows the weekly performance of Nifty50 plotted against the VIX. The last section of the chart shows the correlation between Nifty and VIX. It is evident that most of the times over the past decade, Nifty has typically enjoyed a strong negative correlation with VIX, which is quite normal.
But over the past couple of weeks, this historical negative correlation has gone awry. It has been thrown off-balance, as both Nifty and VIX have started rising together over the past weeks and the correlation between the two has almost turned positive.
At this point, it is important to note that the correlation can turn positive even with Nifty and VIX falling simultaneously. History suggests in the past whenever this correlation has turned positive, it was more because of Nifty and VIX falling together.
It would be important and critical to see what happens when Nifty and VIX rise simultaneously. Though it is difficult to pinpoint the exact number of such occurrences due to the volatile moves in VIX, we find five such instance including the current one wherein the correlation between Nifty and VIX has become strongly positive as they have moved up together.
Excluding the current occurrence, as it has not concluded yet, if one were to examine the past four such instances, it was only once in 2014 that both Nifty and VIX rose together. The VIX came down sharply when volatility decreased but stocks continued to inch higher.
In the remaining three occurrences – in 2010, 2014-15 and in 2017-18 – both Nifty and VIX rose together. But when VIX declined and volatility reduced, it also brought the index down along with it and the market saw corrections ranging from 3 per cent to 8 per cent, approximately.
Conclusion: Over the past couple of weeks, we have seen VIX and Nifty rise together. If one were to take cue from history, volatility (read VIX) is most likely to come down in the coming weeks. However, though it is not certain, there are much higher chances of that happening unless there is an exception like it happened in 2014, when it also brought Nifty down with it.
Remember, 2014 too was a general election year. Apart from this, Nifty has always been prone to corrective moves whenever it has defied its inverse relationship with VIX.
(Milan Vaishnav, CMT, MSTA is Consultant Technical Analyst at Gemstone Equity Research & Advisory Services, Vadodara. He can be reached at email@example.com)