Is the Volatility Dead?

In the age of Twitter, I almost titled this “Volatility in Re-tweet.”   Sounds a little like Tweety Bird, but you get the idea.  With the NFP numbers out and Consumer Confidence numbers ok, the gravitational pull in equities is still up.  I think the volatility pattern in the SPY is telling of how the budget battles are going to shape up.  In short, I think the battle is over.

Take a look at the implied volatility destruction today in the SPY.  Firs,t we see the IV come in today very hard at the money and in all of the out of the money puts.  Any green you see is just the marks from very wide in the money calls.  Note how the implosion is most on a percentage basis up front.  That is just the NFP and CCI premium coming out now that the news is out.  To see that in the volatility products, read that as VXX down 5% and the UVXY down 10%.  The hit was solid.

 

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But if I tip the landscape up and look head on at the term structure (month to month,) what do I see?

 

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Aside from this week’s expiring options, I see a GENTLY ELEVATED term structure all the way out until June and beyond.  Do you remember the crazy backwardation at the beginning of the year?  Even up until two weeks ago, when the debt ceiling was used as a lever for spending cuts, the term structure was showing bulges around the potential news.   For now, the volatility market sees pretty smooth sailing.  The market has already priced in the Sequester, since there is no negotiation necessary.  I don’t disagree.  Low volatility sometimes means not much is happening, and after 5 years of pretty tall volatility, we might have to adjust to lower numbers ahead.  Don’t be surprised by a 12 VIX next week.

The Trade

As crazy as it seems, buying 14 level puts in the VIX makes sense as we head into VIX expiration on the 13th.  There is still a $1 of juice left in the Feb future.

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