The VIX Index and its role in portfolio allocation strategies

Abstract

The VIX, or the “volatility index”, measures the 30-day volatility market expectation implied by a set of options on the S&P 500 Index. In the recent years it gained fame in the field due to numerous market crashes, which led to great losses among investors, and became a widely reported barometer of fear in the market. As soon as the market drops, the VIX spikes to high levels and then reverts to its normal values as soon as the market recovers. In the first part of this thesis we will analyse the complexity of the VIX in many of its aspects and applications, by also reviewing the vast literature on the subject. Starting from aspects such as the strong negative correlation to stock market prices through the possible applications in a portfolio allocation strategy. This gives great opportunity to anyone interested in differentiating its investments, for hedging purposes and risk management. We will also analyse VIX futures and VIX options contracts, which give the possibility to investors to obtain volatility exposure, given the fact that VIX is not investable itself. In the last part we will devise some strategy based on literature and historical data to obtain superior performing portfolios with respect to a diversified buy-and-hold one by using the VIX in its various applications.