India's fear gauge for markets hovers at 20-month low, indicates reign of the bulls

A low VIX reading is generally interpreted as a sign of investor confidence and market stability.

The India Volatility Index, or India VIX, commonly known as the “fear index”, has dropped close to a 20-month low, indicating that investors are bullish in their outlook for the stock market.

The reason VIX is called the “fear index” is because it is a measure of the expected volatility in the index over the next 30 days. Simply put, it reflects the market's expectation for how much an underlying asset will fluctuate, based on the prices of options contracts traded on the asset.

Last week, the India VIX fell to 11.79 points, the lowest level since July 2021. So far in April alone, the VIX has fallen 20 percent.

A low VIX reading is generally interpreted as a sign of investor confidence and market stability whereas a high VIX generally indicates that investors are worried about big price moves on the downside.

Buying by FIIs

Since reaching its record high of 86.63 on March 24, 2020, which coincided with the global stock market crash triggered by Covid-19, the volatility indicator has plummeted by 86 percent.

The India VIX index has declined by 17.45 percent so far this year after falling by 8.35 percent last year.

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"The rally in the Nifty of late has been mainly on consistent buying by FIIs,” said VK Vijayakumar, Chief Investment Strategist at Geojit Financial Services. “The correlation between these two events indicates the market is likely to remain stable with an upward bias."

In the last eight sessions in a row, Foreign Institutional investors (FIIs) bought $1.14 billion in local equities. The benchmark Sensex and Nifty gained for eight consecutive sessions, hitting a near one-month high.

During this period, both flagship indices gained nearly 5 percent each while the BSE MidCap and SmallCap rose 5.3 percent and 7.3 percent, respectively.

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Red flag

Still, some market experts warn that a low VIX reading may also be a warning sign against complacency and excessive risk-taking among investors. When investors become over-confident, they usually ignore potential risks in the market, taking up more positions than is prudent.

A sudden and unexpected negative event—like the banking turmoil in the US recently or a geopolitical crisis—can quickly change the market sentiment and trigger a surge in volatility as traders rush to the exit doors.

In such cases, investors who have taken on too much risk may find themselves in a vulnerable position.

Optimism triggers

Besides FII purchases, cooling of inflation and the recent pause on interest rate hikes by the Reserve Bank of India is adding to the optimism. India's headline retail inflation rate fell below the Reserve Bank of India's (RBI) 6 percent upper limit in March. Additionally, core inflation, which excludes volatile food and fuel items, decelerated to 5.8 percent in March from 6.1 percent in February. Also, the market has been range-bound for more than a year-now, and valuations at 18 times one-year forward earnings is being viewed as reasonable if not cheap.

Gaurav Dua, head of capital market strategy at Sharekhan, said FII behaviour can be difficult to predict, and short-term increases in FII activity should not be viewed as a long-term trend.

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At the same time, India's economy has been a beacon of growth amid global turmoil, Dua said.

"Overall, we maintain a positive outlook on the Indian equity market. As an investor, it's important to keep the big picture of a multi-year economic upcycle in mind and use market volatility to accumulate high-quality stocks," Dua added.

Disclaimer: The views and investment tips expressed by experts on Moneycontrol are their own and not those of the website or its management. Moneycontrol advises users to check with certified experts before taking any investment decisions.