What is the VIX? Why should Crypto have one?
Most of us have heard of the VIX index in the stock market, the index that is sometimes referred to as the “Market Fear Index”, measuring the implied market volatility and a counter index to the standard financial indexes that track upwards market movements.
Volatility is an important statistical measure of market behavior and the most common risk measure in financial theory. In plain words, if the volatility rises for the same asset or index, it means that the market becomes unstable.
So, it is quite natural that the VIX has become one of the most quoted indexes and a cornerstone in many of the trading strategies made by professionals. Investors can use VIX to measure the level of risk, fear, or stress in the market when making investment decisions. Traders can also trade the VIX using a variety of options and exchange-traded products, or use VIX values to price derivatives and by doing so can effectively hedge against the overall market.
The VIX index has paved the way for using volatility as a tradable asset via derivative products. CBOE launched the first VIX-based exchange-traded futures contract in March 2004, which was followed by the launch of VIX options in February 2006. Today, there are many VIX-linked instruments available for trading, including leveraged and short ETN/ETFs as well as futures/options on these instruments. Such VIX-linked instruments allow pure volatility exposure and have created an entirely new asset class. Active traders, large institutional investors and hedge fund managers use VIX-linked securities for portfolio diversification, as historical data demonstrates a strong negative correlation of volatility to the stock market returns — that is, when stock returns go down, volatility rises and vice versa.
Since the invention of Bitcoin, cryptocurrencies have evolved into a new class of financial assets. The emergence of the derivative market has signaled the need for solid pricing strategies as well as reliable risk measures. There is a growing need for a new decentralized volatility index that provides a proper estimation of the risk measurement of the cryptocurrency components, and a delivery of market status information to potential investors.
As such, we believe that the crypto market should have its own decentralized VIX, its own “market fear index”.