With US stocks down sharply in the first five trading days of 2016, measured by an 8% fall for the US small cap Russell 2000® Index, global index provider FTSE Russell studied the relationship between small cap market return and volatility with the help of the Chicago Board Options Exchange.
In 2016 year-to-date as of January 12, while the US small-cap Russell 2000® Index has fallen 8%, the CBOE Russell 2000® Volatility IndexSM (RVXSM), which measures the expected 30 day implied volatility implicit in the price of near term options on the Russell 2000, has risen 20.1% (from a closing price of 20.6 at the start of 2016 to 24.75 on January 12).
According to experts at the CBOE, there is typically an inverse relationship relationship between US small cap returns and implied volatility, which may be heightened in periods of extreme volatility. The non-correlated nature of the Russell 2000® Index (RUT) and the CBOE Russell 2000® Volatility IndexSM (RVXSM) is illustrated in the chart below.
Russell Rhoads, CFA, Director of Program Development for the Options Institute at the CBOE:
“Times of market stress can underscore for market participants the importance of non-correlated asset classes as a means to diversify market exposure. While the Russell 2000 Index has told a negative story for the start of 2016 from a market return index standpoint, the RVX story looks very different from a US small cap market volatility index standpoint. This analysis helps underscore the usefulness of market indexes and futures and options related to these indexes as important tools for investors.”
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