Hello and welcome to CantosCharts. My name is Eoghan Leahy. I'm a trader and Technical Analyst with Fat Prophets and today we're going to be having a look at the CBOE volatility index which is better known as the VIX.

If we jump straight into this you can see over a decade's price action the volatility index essentially measures, as people like to say, a fair gauge in the market. It's calculated off options pricing, the implied volatility for the S&P 500 constituents. But more simply put, high readings above 30 show fear and panic in the market, while readings at 20 level tend to show complacency, or maybe periods of low volatility which can often result in a spike as we've learned all too well in the last few years.

So if we have a look here we can see the VIX rarely spends a lot of time above 30, which is often a good reversal signal to let you know when the market is oversold or when fears perhaps become a little too extreme.

So again, looking here at the 20 level we can see here the large level of complacency that led up to the spike for the financial crisis that we saw recently.

So we like to play around with the volatility index to give us an idea of when the market might reverse and we find it gives some pretty good early signals.

So in terms of what indicators we like to use with it, naturally we look at the 20 and 30 level which has been outlined, but we also find the 200 day moving average quite useful.

You can see here how the break above the 200 day led to some very serious panic selling which resulted in the, or coincided with the selloff for the financial crisis and we can see that since the break below here, what would have been the early half of 2009, we had a nice sustained decline in volatility which also coincided with the nice bull run.

So now we've recently seen this spike higher. Everyone remembers the 1,000 point day on the Dow and the fear levels have increased a little bit. We highlighted to some of our subscribers recently that after the recent rally which saw the FTSE push up towards around the 5,300 level, we saw the 200 day act as support for the volatility index and flagged this as a potential level of support that could see a spike in volatility, which looks like it has come.

Now, this is the key indicator that we like to use with the volatility index, which is Bollinger bands. Bollinger bands set of two standard deviations which means that 95 percent of the price action should lie within these two lines.

So we have the VIX now, which oscillates between extreme fear and complacency, by adding the Bollinger bands onto this, we can really identify some levels where even the VIX is at an extreme for itself.

As we can see here, some of these recent spikes with the close above the level and then a close back inside often gives a very good market reversal signal.

So moving on here we can see that we've just tracked a few of these signals where the VIX has spiked above and closed back inside this level and we can see that it highlights quite a number of market reversals.

Now although this isn't flawless and there are times when you'll get a missed signal, it does generally, in conjunction with a lot of other indicators, give some very good signals.

We can see here we've had a brief test of this upper band in the past few days which has also coincided with some support being found in the FTSE around 4,800.

Now the question is do we need to see another spike higher which would perhaps lead to a selloff and maybe some panic selling below the 5,000 level, or have we reached an extreme here now where we're ready to move a little lower in the VIX, which would coincide with a run higher in the markets?

Once again, back to the point and figure charts, they pull out a lot of the volatility and give some very good projections. We can see this gave us an early warning of the spike up to the 35 level and it's also warning of a spike higher. So based on this indicator alone, it's suggesting we might have to see another shock to the market before we're fully out of the woods here.

Finally, for those of you that want to trade this, it's quite difficult to trade because it doesn't trade off levels the way a stock would technically on a short-term basis. But for anyone holding a portfolio, a long only portfolio of stocks, I'd actually suggest during times when the VIX is low, maybe a little complacent, to lock in gains which you could do as proportion maybe 10 per cent of an amount of your portfolio towards - this is actually a VIX ETF. So this is a dollar denominated VIX ETF. Ticker symbol VXX. So this is something we like to look at the heads, portfolios, long only portfolios against sudden sharp shocks in the market.

So definitely worth a look and definitely worth keeping the VIX with Bollinger bands, the 200 day moving average and have a look at that 20 and 30 level. It gives some very good market signals.

Thank you very much. I've been Eoghan Leahy and this is CantosCharts.