Word: putting
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Volatility is almost universally misunderstood: that one number can imply any number of market conditions, all of which mean different things to different investors. That's because volatility assumes stocks prices move in a certain way, but this model is limited and unrealistic. Put options are used to hedge against big downward swings in prices, which are a very specific face of high volatility...
Forget volatility. The VIX is a measure of the price of insurance against market instability. After all, put options essentially insure against market declines...
Traders writing (i.e., selling) put options are, therefore, the insurers. But why should their opinions affect the most (mis)quoted measure of volatility, the VIX? Many justify using options pricing because options traders are supposedly more sophisticated investors; options are considered more complex than their underlying stocks. But these are the same "sophisticated" investors who suffered enormous losses over mortgage-based securities. Can we really trust an index derived from their (mis)pricings...
...Put-options prices have fallen either because there is less demand for them, or perhaps due to oversupply as the market has been saturated by financial firms wishing to sell these options. The VIX may have continued its descent because investors do not fear a market crash enough to buy insurance at the same premium. Or perhaps more banks are writing options - selling insurance on a possible market crash...
...like other insurance policies - say health insurance. Stocks tend to move together, whereas one person's health tends to vary independent of the nation's health. Risk to health-insurance companies decreases as the number of policies increases; risk compounds for options writers as their volume increases. Those writing put options have secured small gains for now, but they will suffer multiplied losses across the board should the market tank...