To state the obvious, after a long Summer dirt nap, volatility has picked up over the past 2 weeks after the SPX fell quickly through its 50 day moving average before finding support at a fairly predictable support level around 2120. It is now attempting to turn that bounce off of support into consolidation:
Despite the overall move not being that significant what has changed is the day to day swings in the market, with a couple of those moves putting a little fear back in what was one of the most complacent markets we had seen in decades.
Right before all this, on September 8th, we detailed a way to be long VIX futures in November with a fairly easy to understand risk profile in the form of a call spread/ risk reversal. Here was that trade idea when spot VIX was 12.25:
*VIX ($12.25) Sell the Nov 15 put to buy the Nov 20/29 call spread (call spread risk reversal) for even money
- Sell 1 Nov 15 put at 1.00
- Buy 1 Nov 20 call for 1.70
- Sell 1 Nov 29 call at .70
As stated in the initial post, this is one of our go to positions to be long volatility when the VIX is at low levels. We find this to be much more effective than any of the publicly available VIX products out there which suffer from all kinds of roll issues that act like a heavy dose of decay over time (we’ve written about these products in the past as a buyer beware situation, read more here.)
As you can see in the original trade, the spot VIX at 12 and change was about as low as you ever see it (it can go lower, but you rarely see it approach 10 on the downside, last August it got as low as 10.50 but only for a second). That seemed liked a good entry coming out of the Labor Day weekend and with the upcoming FOMC meeting. The spot VIX has popped since then with these market moves and got as high as 19 on Sept 12th, just a few days after the original post:
When I refer to the “spot VIX” what I mean is the one you see on TV or on your online trading platform. You can’t trade the spot VIX, it’s merely tracking volatility on the SPX. What you are trading with option on the VIX are the futures of that month. In our case November. At the time, the VIX November Futures were about 17.20. With the spot VIX now being higher, the VIX futures in November are up a bit too at around 18. With this move, the original trade is doing well, now worth about .60 vs the original “even money”.
As stated in the original post, this trade works best if there’s a massive spike higher in the VIX at any point, or if there’s a general change towards higher volatility over time. We’ve seen a little of both as the original spike in the VIX to 19 or so had this trade worth about 1.50 at one point, and even with the VIX back to 15 it still looks good as vol is unlikely to return to 12 soon.
There is one thing that could change that and that is some sort of “Goldilocks” reaction to the FOMC meeting this week and economic data points upcoming this month. That’s the perfect storm that took all the vol out of the market in August, but this time around, it’s less likely because there are more moving parts this Fall, between FOMC , BoJ, OPEC meetings and an election here in the U.S.
But low vol can return anytime, so on the next spike we’ll maybe look to take of that short put and take almost all the risk out of the trade (and the margin). And if we do see the return of Goldilocks we have some room before that 15 put becomes much of a risk (with Nov futures 18, the put is $3 out of the money). And in the meantime the trade is a really nice thing to have on against the rest of your portfolio as it can make a lot of money in a short time should things get crazy.