Forecasting returns and risk through implied volatility: A dual-threshold investment framework

Chih-hsiang Hsu ()
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Chih-hsiang Hsu: Department of Finance, Ming Chuan University, Taiwan

Economics Bulletin, 2025, vol. 45, issue 4, 1926 - 1938

Abstract: This study explores the non-linear relationship between implied volatility and future equity returns. We document a U-shaped link between implied volatility and ETF performance across three index pairs: VIX-SPY, VXN-QQQ, and VXD-DIA, suggesting that extreme volatility may signal market rebounds. Based on this, we develop a two-threshold trading rule that reallocates between equities and bonds. Backtesting results show that the strategy improves risk-adjusted returns and reduces drawdowns relative to a buy-and-hold approach.

Keywords: Implied Volatility; VIX; Passive Investing; Tactical Allocation; Risk Management (search for similar items in EconPapers)
JEL-codes: G1 (search for similar items in EconPapers)
Date: 2025-12-30
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