VIX is the Chicago Board Options Exchange (CBOE) Volatility Index and represents the implied volatility of options on the S&P 500 Index (SPX). The VIX is calculated by taking a weighted average of implied volatilities for the nearest two months' calls and puts on the Standard and Poor's 500 Index (SPX) and measures the price of option protection. As a result, the VIX is considered an index of 'fear' among investors. The VIX is a popular and widely used measure of market risk.
Typically, VIX has an inverse relationship to the market, which means that the VIX drops in a rising stock market and rises during market declines. The higher the perceived risk is in stocks, the higher the implied volatility and the more expensive the associated options, especially puts. Hence, implied volatility is not about the size of the price swings, but rather the implied risk associated with the stock market. When the market declines, the demand for options usually increases. Increased demand means higher option prices and higher implied volatilities.
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