Using the Volatility Index (VIX) as a Trading Indicator

Most technical trading strategies primarily focus on price trends to guide investment decisions. We consider an alternative approach that employs changes in the volatility index (i.e., VIX) as a trading indicator and test a variety of thresholds in an easy to implement trading strategy that even unsophisticated retail investors could follow. Hereby, we explore the effectiveness of rotating out of stocks and into bonds when the VIX rises above certain levels (or thresholds), and vice versa when the VIX declines below that threshold. Using data from 2000-2021, we find that this approach generates excess risk-adjusted returns in a wide variety of thresholds, ranging from 15 up to 59. We also find excess raw returns when using high thresholds ranging from 40 to 59 and also at lower threshold levels (17 to 24), although these latter outcomes are dependent on the use of stock portfolio leverage to increase portfolio efficiency