MorningWord 12/22/16: VIX – Volatile Compounds

by Dan December 22, 2016 9:50 am • FREE ACCESS

Last night on CNBC’s Fast Money they asked me to take a quick look at the VIX (CBOE Volatility Index) trading at 2016 low, briefly below 11 for the first time since Aug 5th, 2015:

The so called “fear index” gets a lot of play in the financial press, but the truth is, just looking at spot VIX doesnt’t tell you a whole heck of a lot.  But let’s take a crack at what does and doesn’t matter with the index.

In that video clip I mentioned that shortly after the sub 11 print in the VIX on Aug 5th 2015, the index spiked to its highest levels since the 2008 Financial Crisis following palpitations in China’s currency, equity and credit markets. Since then it has made a series of lower highs:


Those subsequent vol spikes have been sharp, largely having to do with macro events like the Q1 global growth scare this year, Brexit vote in late June and our election this past fall, but none even approaching the Fall of 2015.

When you hear someone discuss the VIX on tv or in print, what they are referring to is the spot VIX. The spot VIX is simply an average of near the money option volaitlity in the S&P 500. You cannot trade the spot VIX. What does trade are VIX futures. In the futures traders are pricing where the VIX may be at a future date. For example, in January, VIX futures are trading a few points higher at 14, than the current spot. That’s still below long term average of 19, where Aug futures are.

Just because VIX is near its historical low, it doesn’t mean that options are cheap for this moment in time. Periods of low volatility can last for a long time. And in a lot of cases, as it is now, a low VIX can still be trading rich to the market’s realized volatility (how much the index is moving). If you take a look at the current SPY vs VIX, options prices on the index are trading at a healthy premium to how much the index is actually moving:

Jan options in SPY are pricing about 2.3% move in either direction between now and Jan expiration, the day of inauguration. Feb options are pricing about a 3.5% move between now and then. That’s pretty cheap but when volatility is low you can’t just run out and buy options expecting to make money on an uptick in vol in the near future, because you don’t know when that uptick will come and being long options in a low vol environment can be painful, as decay takes its toll. Obviously we’re just entering a low volume holiday trading period, and often the VIX will get ahead of that period with traders selling options into Christmas. But before Christmas is probably the lowest you’ll see the VIX itself for a while as historically we come out of New Years with an big uptick in volume, and vol, no matter which direction the market starts in 2017.