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All's Mostly Clear on the Black Swan Front

Options traders are about halfway toward believing that an unusual event is about to take place that could rattle markets, according to a new market gauge that measures such Black Swan-type events.

The CBOE’s SKEW index, a gauge that seeks to determine the probability of an impact that goes beyond the Volatility Index, is off what would be considered a low level but well off its extremes.

The index measures the spread between out-of-the-money put and call options—commonly referred to as “skew”—and assigns a value that investors can use as a measure of market fear.

“What SKEW tells the world is how the market perceives the chance that there will be some sort of surprise downward move, something you would not expect if the distribution of returns was bell shaped in which there was very little probability of extreme moves,” says Catherine Shalen, director of research and product development at the CBOE.

Though the SKEW has been listed only since Feb. 23, Shalen shows research for the lower-case “skew” shows the typical range to be 100 to 146. With the current reading at 123, it seems to indicate only modest belief that a crisis-level event is lurking out there somewhere.

Shalen says a reading above 135 would indicate a strong belief in a Black Swan, a term popularized from Nassim N. Taleb’s seminal book of the same name.

Though the financial crisis is widely seen as the clearest example of such an event, Shalen insists “it wasn’t the crisis” that brought about the idea to put together the SKEW.

“I though there might be a need for an index that gives a little more color,” she says. “We needed something to complement the VIX, to add to the information of VIX, something that would tell about the tail of the distribution.”

The VIX is often referred to as the fear index though it only measures events that would occur one standard deviation away from mean, or typical, market behavior. SKEW goes into additional deviations and often trends differently than its sister index.

A note: The SKEW has been introduced in the same manner as the VIX, in other words as a gauge rather than a tradable option. The VIX now can be traded, but there are no plans as yet if or when SKEW will be available for trading.

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