VIX Sending Odd Signals – Sell?

Download 2010-3-20 A Buy Sign That May Mean Bail – WSJ.com

The stock market's most closely followed volatility index dropped this past week to its lowest level in nearly two years. Some investors who study volatility believe low readings are a bullish indicator for stocks. Historically, the market has tended to rise as volatility falls, and vice versa.

So the latest numbers are a surefire buy signal, right? Not necessarily. Dig a little deeper and you might even spot a contrarian indicator telling you to sell.

So how can traders best make use of this oft-misunderstood index? By studying what is happening in the futures market. Professional investors have traded futures contracts on the VIX since 2004. When the futures are significantly different from the VIX itself, it is a signal that the index—and possibly the stock market—could soon reverse course. When the futures are significantly lower, it could be a bullish signal. When they are markedly higher, it could be bearish.

The latter is the case now. As of Friday's close, the July futures on the VIX were trading at 23.25 and August futures at 23.40, considerably higher than the VIX's 17. That suggests the pros are bracing for more volatility as the year wears on. If they turn out to be right, that could bode poorly for stocks.

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