I am consistently taken aback by my how many of my new options mentoring students have some sort of weird love affair with the Russell 2000. I guess I get it on this level:
1. It is an expensive index
2. It is the most electronic of the major indexes
3. It has relatively tight markets
4. The somewhat higher IV produces decent premium levels.
If I was a novice trader that didn’t know any better I would think that the RUT would be a great trade as well. Here is the problem; the product is a total beast. The end of day realized volatility doesn't do this stock justice. In the last month the RUT has moved with a volatility of closer to 33% than the low teens it allegedly is at now. So what gives, why does realized vol being measured so low?
Notice the HV and IV's are dropping, yet the RUT rallied almost 9% over the last 30 calendar days.
If we look at how much the RUT has moved on a day to day basis the movement has actually be quite low. The index simply is not having a lot of movement volatility. The problem is that this slow movement has essentially been in one direction: up. A directional market can create the illusion of low realized volatility, the fact is that for a condor trader or butterfly trader directional can be worse than volatile.
Part of the issue is the product itself. The RUT over the last year has, and seems will continue to have much stronger directional pull, not enough priced in volatility and traders that like selling condors in it. If one was to compare the ease of entry in a trade in the RUT to say the OEX I would certainly agree the RUT is the easier product to trade. However, if we take the time to look at movement and the relative volatility of the underlying product, it is worth the time to learn how to execute a good trade vs. being in a product with great execution. The RUT is the classic example of lazy trader's costing themselves money because they would rather put on an easy trade than a good one. If you get one thing out of this blog make it be this:
Product Selection Counts
The latest issue of Expiring Monthly: The Option Trader's Journal was released last night. This one might be the best one yet. To subscribe (which you should if you are not) click here.
Speaking of execution, you can watch me execute live via the AM Pit Report every morning at 9:50 EST.
Follow us on twitter @optionpit
Graph from livevol
