Iran’s air force and Navy were both obliterated within days. But they do have one card left to play, and they’re playing it: They are attempting to sow chaos and uncertainty by launching missile and drone assaults against Israel and every Gulf state hosting U.S. military assets — hitting airports, refineries, and hotels in the UAE, Kuwait, Bahrain, Qatar, and Saudi Arabia.

They are also attempting to disrupt and deter tanker traffic through the Strait of Hormuz, which handles roughly 20% of global seaborne oil. Thus far, tanker traffic through the Strait has collapsed from 24 vessels a day to four. By Friday of this week, Brent crude prices had surged 27% on the week and WTI had gained 36% — the largest weekly gain for U.S. crude futures since they began trading in 1983. U.S. oil closed Friday at $90.90 a barrel.

Markets noticed.

Meanwhile, the Dow Jones Industrial average fell 3% on the week, likewise its worst weekly showing since April.

The S&P 500 dropped 2% and Europe's Stoxx 600 sank 5.5%.

The 10-year Treasury yield jumped from 3.96% to 4.14% as investors sold bonds and priced in some additional inflation risk they hadn't seriously modeled until this week. Wells Fargo put out a note warning that a prolonged Hormuz closure and oil at $100-plus could push the S&P 500 to 6,000 — a 13% decline from where it started the week.

Which brings is to the VIX—the subject of this week’s column, and the third in our look at three important indicators that systemic fund managers often rely on to give some early warning of a potential change in market regime.

VIX is the symbol for the Chicago Board of Exchange Volatility Index.

Sometimes referred to as the “fear index,” it’s a measure of the expected 30-day annualized volatility in the S&P 500, as derived from a broad sample of index options across strikes and expirations. Essentially, it’s a measure of the cost traders are willing to pay to protect themselves against near-term price swings. The more nervous traders get, the higher the VIX.

And as the U.S.-Israeli strikes on Iran got underway, traders got decidedly more nervous: The VIX surged 18% on March 2nd, and finished the week up 24%, reaching its highest reading since — you guessed it! — April.

VIX math is straightforward: When investors expect big moves, they pay more for protective options. That demand gets priced into implied volatility, which the VIX rolls up into a single number. A reading of 20 implies expected annualized S&P 500 volatility of 20% over the period, roughly ±1.25% per day. A reading of 40 doubles that to ±2.5% daily moves. Think of it as the market's insurance premium: the higher the VIX, the more expensive the cost of safety.

Does the VIX tell you what’s going wrong? No. It simply tells you when investors in commodities — like Brent crude oil, for example — are sensing uncertainty, and are increasing what amount to their “insurance premiums” against possible volatility.

It’s not an exact science. These things never are. But there are four rough “VIX zones” that you can use to orient yourself:

Here’s what the VIX did over the last week:

As you can see, the VIX spiked as attacks began on March 3rd, then settled down as the U.S. and Israeli strikes achieved overwhelming success and the Iranian surface navy was rapidly converted into a submarine fleet.

But the enemy gets a vote, of course. And the VIX started climbing again as Iranian counterstrikes found some minor tactical successes against Gulf oil facilities and oil tankers dropped anchor rather than chance a run through the Strait of Hormuz.
There are reasons for concern: The conflict is fundamentally asymmetrical. Iranians aren’t stupid, and they will very likely try to continue interdicting and deterring shipping for some time. They have the drone and rocket inventory to do so (though whether they can deploy and support their launcher force in the field under overwhelming U.S. air supremacy in southern Iran is another issue).

But if you zoom out a bit, even with a hot war directly astride the Strait of Hormuz fully underway, the VIX is still only slightly elevated. It’s nowhere near its historic highs, nor even its highs for the year.

If the VIX is any indication (and it is!), traders were much more nervous about the Trump tariffs last year, Volmageddon in 2018, and COVID than they are about the Iran war.

So far, anyway.

It can be very useful — but only if you use it right. Most people don't.

The VIX isn’t a crystal ball. It's just a spot price, like any other. Like gold, like silver, like crude prices. It’s just a measure of the price market is paying to hedge uncertainty right now. One spike to 35 that clears in two weeks is a scare, not a regime change.

Building a trading strategy around raw VIX levels — for example, sell when it crosses 30, buy when it drops back, or vice versa, produces inconsistent results. That’s because the VIX is reacting to events, not anticipating them. The academic literature backs this up: spot VIX has limited forecasting power over equity returns beyond a few days.

The traders who use it well aren't the ones reacting to every spike. They're the ones who know that what matters isn't how high it goes. It's how long it stays there.

So smart traders look beyond the spot number and rely more on examining duration and term structure. When the VIX holds above 25 for 60-plus days — as it did in late 2008, Q4 2018, and through much of 2022, that could mean that underlying environment has shifted: liquidity conditions, credit costs, and institutional positioning have all repriced.

That's a signal, combined with other indicators like a shift in the treasury yield curve, or a substantial change in stock/bond correlations, that may be worth acting on.

Also, it turns out that the VIX has a pricing curve of its own, in the form of option pricing, which the more sophisticated traders watch carefully. There’s even a VIX of the VIX (VVIX), which measures the volatility of the options on the VIX itself.

That’s where things get really interesting, and where systemic traders and other professionals can get a lot more utility than the retail trader can get out of the front-page number that the normie people track.

We'll get into that next week. Thank you for reading.

And pray for an early and successful termination of this war.

Until next time,

The Navigator