As the broader market continues to sink, investors are eagerly awaiting a bottom and hoping that at the very least it’s right around the corner. After all, the S&P 500 is down roughly 21.5% this year.
But with a lot of anxiety about a looming recession and the possibility of stagflation, I don’t think anyone can say with certainty whether or not the market has bottomed yet. Here is one thing that will need to happen for the market to truly bottom, according to experts.
Fear needs to really rage
One way that investors gauge fear in the market is through a benchmark called the Chicago Board Options Exchange Volatility Index (VIX), or the VIX for short. This metric uses implied volatility in the options market to show how much investors believe the S&P 500 will move in the near term based on a 30-day forward projection. The VIX tends to rise as the S&P 500 falls. So when the VIX is high, that means investors are fearful and there is likely to be a lot of market volatility. A lower VIX means less volatility and less fear among investors.
As you can see, there’s been a lot of movement in the VIX this year itself and some spikes. Generally speaking, a VIX reading above 20 indicates a more volatile market, while a VIX reading below 12 means low volatility and less risk in the markets. The VIX recently shot up close to 35 before settling some, but some experts think it hasn’t topped out yet.
“At a high level, we have yet to see a real VIX spike yet, and panic selling has not set in,” Adam Kobeissi, founder of The Kobeissi Letter, a widely read newsletter covering the capital markets, told MarketWatch earlier this month. “Generally speaking, we do not see bear markets bottom without panic selling, similar to what was seen in 2001 and 2020.”
Kobeissi added, “Historically speaking, no bear market has ever bottomed without a VIX reading of 45 or more.”
It makes sense that the VIX is rising, as investors are very concerned about the possibility of a recession or stagflation. Those concerns have been accentuated by a recent inflation reading from the Consumer Price Index (CPI) that showed consumer prices rose at a fast clip in May, meaning inflation has not yet peaked.
Now, the Fed is being very aggressive in its bid to combat inflation, most recently hiking its benchmark interest rate, the federal funds rate, by three-quarters of a percentage point in the Fed’s largest single rate hike since 1994. The longer the Fed has to stay hawkish, the higher the likelihood that rising interest rates tip the economy into a recession or a period of stagflation.
Does the VIX really need to go higher?
After such intense selling, it would be fair for investors to think that a market bottom is around the corner. But one thing that could dispel this belief is the fact that the market rose so fast between the start of the pandemic and the end of 2021.
On the other hand, the consumer has been sitting on an extraordinarily large amount of savings up until recently, so perhaps that added a margin of safety against the volatility and a bottom is near. But my guess is that more volatility is ahead for now.
Either way, there is no point in trying to time a market bottom; it is nearly impossible to do so. Instead, take advantage of the sell-off to look for stocks trading at a discount and purchase them with a long-term horizon in mind. Even if there is a recession, it will eventually be followed by new market highs, as has been the case after every recession in history.