Mechanics Behind the Anomaly

Let’s start with the simplest reason: sometimes, “stocks up, vol up” is just mechanical noise — a byproduct of how index options are priced.

Index volatility is derived from the pricing of the puts and calls that make up the implied volatility surface. If there’s heavy demand for upside calls, or if dealers must reprice wings to reflect skew, the implied vol can rise even as the index trends higher. That’s particularly common in indices like the S&P 500, where large institutional flows in the options market can distort vol pricing.

So while many traders might interpret a rising VIX as a pure sign of fear, sometimes it’s just the natural output of hedging flows and bid-ask shifts across different strikes and maturities. The headline “VIX up” can mask whether that vol lift is in the puts (downside fear) or calls (upside chase).

When Dealers Get Offsides

A more complex — and more consequential — reason is when dealers or large market makers become offsides in their gamma or vega exposure. Consider this: dealers sell options to clients. When they do, they take on exposure that must be hedged. If a dealer is short gamma, they hedge by selling into rallies and buying into dips — that’s stabilizing. But when they get squeezed and must rebalance, the hedging flows can create forced buying of volatility.

One example that’s become infamous among options traders is SoftBank’s activity in September 2020. Back then, it was widely reported that SoftBank bought billions in single-stock call options on major tech names. Dealers who sold those calls became short gamma on those stocks — so as prices rose, they had to buy back the underlying to hedge their position, further driving the stocks up.

At the index level, that forced buying also lifted implied volatility, because dealers needed to source vol wherever they could find it — so the VIX rose even though the S&P 500 was ripping to new highs. Many traders misread this as an ominous sign; in reality, it reflected mechanical dealer hedging flows, not broad-based fear.

Restriking Hedges: Subtle Vol Bid

There’s another common scenario, one that’s often overlooked: large institutions with structured hedging mandates. Pension funds, insurance companies, or macro funds frequently run portfolios that include long equities hedged with index options.

When the market rallies hard, the notional exposure of their equity holdings rises. To maintain their desired hedge ratio, they have to “restrike” — meaning they close out or adjust existing protective puts and buy fresh puts closer to current spot. This creates natural demand for index volatility even as spot climbs.

It’s a subtle but powerful bid that can lift implied vol, especially when markets are trending to all-time highs. In this situation, “stocks up, vol up” isn’t a sign that smart money is panicking — it’s a sign that they’re mechanically rebalancing their portfolio risk.

RV Desks and the Basis Trade Squeeze

Then there’s the relative value (RV) community. Many institutional desks run basis trades on the SPX-VIX relationship. A classic version is long variance swaps versus short VIX futures — or variations where traders bet on the spread between realized volatility and implied volatility.

If the market moves sharply in an unexpected way, these trades can get crushed. Imagine a scenario where realized vol is higher than implied vol for longer than expected — or where structural changes cause the basis to break. RV desks can get forced out of their positions, needing to buy back vol to cut risk. This unwinding can create spikes in implied vol even when spot keeps rising.

It’s yet another example of how flows, rather than pure fear, can distort the textbook “stocks up, vol down” dynamic.

The Current Picture: Not All Fear

So, what about now? Let’s put this into today’s context.

So far, the recent “stocks up, vol up” dynamic feels less like fear-driven hedging and more like the natural consequence of long-biased investors being forced to re-hedge as their equity exposure grows. Equity indices are hovering near all-time highs, so the notional value of portfolios is expanding — triggering institutions to restrike protective puts and layered spreads.

Meanwhile, we’re seeing some dealers subtly offsides in gamma as they adjust to rising spot levels. That puts a small but persistent bid under implied volatility. Importantly, there’s little sign of panic in other metrics: credit spreads remain tight, funding stress is muted, and volatility of volatility (VVIX) is stable.

The takeaway? This isn’t a classic “vol up means the end is near” environment. Instead, it looks more like the market digesting how to price risk in a world where big flows and hedging programs move the needle.

How Traders Can Use This Insight

Knowing why “stocks up, vol up” is happening can keep you from falling into the fear trap — or worse, fading it for the wrong reasons.

  1. Watch Gamma Exposure. Track dealer gamma levels using models or analytics platforms. When dealer gamma flips from long to short, the hedging flows can flip too — creating these non-intuitive moves in vol.
  2. Monitor Term Structure. See if the term structure is flattening or inverting. A rising front-month VIX with a flat back-end can be a signal of short-term hedging flows — but if the entire curve lifts, it might be broader risk aversion.
  3. Look for Cross-Market Clues. Are credit spreads blowing out? Is the VVIX climbing rapidly? If not, the vol bid is probably mechanical.
  4. Adjust Your Playbook. If you’re an option seller, know that low IV Rank with “stocks up, vol up” can signal short-lived spikes you might fade — but be careful if dealer hedging flows are sticky. If you’re an option buyer, these pockets can provide cheap entries for directional trades if you know the flows won’t snap back too quickly.

Final Word

“Stocks up, vol up” is a reminder that markets don’t always follow the textbook narrative. The options market is driven by supply and demand for risk transfer — and in a market where structural hedging, basis trades, and dealer positioning play big roles, volatility can behave in surprising ways.

So next time you see the VIX rise on an up day, don’t panic. Instead, ask: is this noise, mechanical flows, or real fear? The trader who understands the difference is the one who keeps their edge when others lose theirs.