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Wall Street's fear gauge breaking out as geopolitical jitters mount into long weekend

  • The VIX index is up more than 20 percent so far this week.
  • Giant bomb dropped in Afghanistan the latest in geopolitical worries for traders.
  • U.S. markets are closed Friday.

Stocks may be in for a deeper pullback, now that the so-called fear index is finally breaking out higher.

The CBOE Volatility Index (.VIX), considered the best gauge of fear in the market, closed above its 200-day moving average for the first time since the election this week. The indicator jumped more than 2 percent Thursday afternoon at one point to a fresh high for the year.

U.S. markets are closed for trading Friday for the Easter holiday.

The recent spike in fear comes just as geopolitical risk heats up. The Pentagon said Thursday U.S. military forces dropped the largest non-nuclear bomb in Afghanistan, the first time the so-called mother of all bombs has ever been used in combat.

U.S. stocks fell, with the S&P 500 and Dow Jones industrial average closed at two-month lows Thursday.

"I'd say it's probably more of a Trump trade [reversing] than the geopolitics, but going forward I think the geopolitics is the topic the market is focusing on," said Andres Jaime, global FX and rates strategist at Barclays.

Meanwhile, tensions around North Korea are heating up as the communist state has warned of a nuclear attack on the U.S., which has sent a Navy strike group toward the western Pacific. North Korea celebrates the birth of its founder Kim Il Sung on Saturday.

VIX 12-month performance

Source: FactSet

The fear index on Thursday hit 16.22, its highest since Nov. 10, after closing above its 200-day moving average on Monday for the first time since Nov. 8.

"The VIX confirmed a breakout above its 200-day moving average [Tuesday], supporting a pickup in volatility in the days ahead," BTIG's chief technical strategist, Katie Stockton, said in a Wednesday note.

"We expect the inversely correlated SPX to break its 50-day moving average in a short-term setback that will lead to a retest of March's low" of 2,322, she said.

A key factor for the renewed fear was concern about geopolitical events such as tensions with North Korea, the conflict in Syria, or the French elections.

The geopolitical risk has been known for some time, but "now it's creating a critical mass," said Dan Veru, chief investment officer at Palisade Capital Management. "The market's being forced to recognize the impact [from] global disruption."

"You're seeing significant institutional demand for protection. Right or wrong, their models are indicating now there's an increased risk of further market disruption," he said.

In another concerning move, the S&P 500 closed below its 50-day moving average Wednesday for the first time since Election Day.

However, the VIX is also still well below its historical highs. The index hit a 52-week high last June of 26.7, and Veru pointed out on Wednesday that VIX futures for May and June actually point to a decline in the fear index.

"That tells you based on what options players feel, that there's a great deal of risk on the near-term time horizon and they don't see as much risk in May as they see right now in April," he said.

The major U.S. averages also remain within 3 percent of their all-time highs.

"A deeper pullback would be constructive in that it would generate short-term oversold conditions within the framework of the long-term uptrend," Stockton said.

— CNBC's Gina Francolla and Robert Hum contributed to this report.