The VIX Index was developed by Professor Robert E. Whaley in 1993.

VIX is the ticker symbol for the Chicago Board Options Exchange Market Volatility Index, a popular barometer of trader sentiment and market volatility of S&P 500 index options. Often referred to as the fear index or the fear gauge, it represents one measure of the market’s expectation of stock market volatility over the next 30 day period.

The VIX is calculated using a kernel smoothed estimator that takes as inputs the current market prices for all out-of-the-money calls and puts for the front month and second month expirations. The goal is to estimate the implied volatility of the S&P 500 index over the next 30 days.

The VIX is quoted in percentage points and translates, roughly, to the expected movement in the S&P 500 index over the next 30-day period, which is then annualized. For example, if the VIX is 15, this represents an expected annualized change of 15% over the next 30 days; thus one can

infer that the index option markets expect the S&P 500 to move up or down 15% / square root of 12 = 4.33% over the next 30-day period.

The VIX is also called the fear index. The VIX spikes on market pullbacks 80% of the time and is why Guerilla Stock Trading and the Stock Trading Master channel uses the VIX as an effective leading indicator for stock market analysis.

This seemingly incredible ability to measure fear comes from measuring market prices for calls and puts. As out-of-the-money puts rise and calls drop during a market pullback, it pushes the VIX up which is bearish for the market. The opposite is also true. A bullish market causes out-of-the-money calls to rise and puts to drop.

On September 1st 2008, ahead of the bailout of the U.S. banking system by tax payers, the VIX spiked from a reading of 20 to a reading of 70 over several weeks.

On March 1st 2009, ahead of the most powerful bull market run in U.S. history, the VIX went from 50 down to 34 over a 6 week period.

But it’s not just major market moves that the VIX can forecast. Any significant swing move up or down can be seen in the VIX.

On October 1st 2011, and the swing move up which took the S&P 500 from 1131 to 1285 over several weeks, the VIX fell from 43 to 25.

On July 18th 2011, when the S&P 500 fell from 1350 to 1123 over the next 4 weeks, the VIX rose from 17.50 to 40.