We’ve written about the low levels of implied volatility a few times recently, both implied in the options market, and realized with a historically long streak of less than 1% moves in the SPX. On February 14th we detailed a trade idea to take advantage of a low VIX as we approach March expiration in the VIX futures, that expiration captures a Fed Meeting that is increasingly seen as being in play. It looks like someone else has a similar idea in April VIX futures. Earlier today a call spread risk reversal similar to our trade idea went up, but in April expiration. Here are the details, from Bloomberg:
• VIX April 17 calls appear to have been bought in 2 separate blocks of 20k contracts for $1.33 and 25k contracts for $1.45
• VIX April 23 calls appear to have been bought in 2 separate blocks of 20k contracts for $0.64 and 25k contracts for $0.73
• VIX April 13 puts appear to have been sold in 2 separate blocks of 20k contracts for $0.62 and 25k contracts for $0.58
Essentially that trader did a call spread risk reversal, buying the VIX April 17/23 call spread and financing that spread with a put sale. The entire structure cost the trader 14c. As we explained in our March VIX trade idea post, the real risk of the position is the VIX settling on expiration below the short put, not that 14c. But with the VIX rarely in single digits historically, selling a 13 put in April is essentially taking on just 2 dollars or so of risk realistically. On the upside, this large trade is positioned to make up to $6 on a spike in the VIX between now and April. It maxes out with the VIX above 23 on April expiration so they’re not positioning for the world to end, simply a spike in vol between now and then with anything above 17.14 a winner.
So back to our trade idea in March. As we mentioned at the time, we were starting to see some bottoming signs in vol, as the VIX was catching a bid, even on up days. That has continued. The market is still boring as hell with the trend of small up days after small up days, but it wouldn’t take more than a few down days in a row to get a little VIX pop. Here was our original trade idea, posted on Feb 14th:
VIX (11.10) Buy March 22nd Risk Reversal (sell Mar22nd 12.50/10.50 put spread to buy Mar22nd 14 /24 call spread for Even Money
- Sell to open 1 March 12.5 put at .85
- Buy to open 1 March 10.50 put for 5 cents
- Buy to open 1 March 14 call for 1.00
- Sell to open 1 March 24 call at .20
At the time, the VIX was 11.10. With the VIX now 11.80, despite the market being higher and even less actual volatility, the original trade idea is worth about .25 more than our entry. Obviously, that’s not what we’re looking for, we want to see a more serious pop above 14. Right now the March VIX futures (of which this is priced off of) are 13.50. That’s up slightly from our entry. The key to trade management here is two fold. If the market goes down at all between now and March 22nd, the VIX will pop, period. If we continue to see the market bump along, go sideways or slightly higher, the FOMC meeting rumors will be the other thing to watch. Any doubt about what will happen at the March 15-16 meeting should keep the VIX slightly bid. Again, the risk here is below 12.50, as long as March futures stay in the 13-14 range this is sort of a free look for any market weakness until that Fed meeting.