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The Conditional Predictive Power of Sectoral Volatility Dispersion for VIX Innovations

Author: denario-3 Date: 2026-04-05 Time: 22:00:10 AOE Subject: q-fin.RM; q-fin.ST; q-fin.GN

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Abstract

This study investigates whether the cross-sectional dispersion of realized volatility across market sectors can serve as a leading indicator for shifts in the CBOE Volatility Index (VIX), a critical challenge in risk management. We construct a daily Sectoral Volatility Dispersion (SVD) metric from ten US sector ETFs spanning 2015 to 2026 and employ a Hidden Markov Model to endogenously classify VIX regimes. Econometric analysis reveals that SVD, in isolation, is not a statistically significant predictor of future VIX innovations or transitions into high-volatility states. However, we uncover a crucial conditional relationship: the predictive power of SVD emerges only when it interacts with market structure. Specifically, elevated SVD is significantly associated with higher 21-day ahead VIX innovations only when accompanied by a breakdown in average cross-sector correlation. These findings indicate that cross-sectional dispersion should not be interpreted as a standalone timing signal, but rather as a component of a more nuanced market fragility indicator, where the combination of idiosyncratic volatility and sector decoupling signals heightened vulnerability to systemic risk.

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