Option Traders, some of my favorite blogs are vixcentric or talk about the VIX often (VIXandMore and Dailyoptionsreport to name two). They do a lot of good by revealing how the VIX trades, and how it is trading. They also go through the ins and outs of the volatility ETN's (VXX, VXZ, etc). The big buzz word has as of late has been Contango. It IS an important thing to understand; although I do not love that the word sounds like something that would happen at Shawshank Penitentiary (get it Con-tango). Basically, the back month VIX futures have been trading at a huge premium to front month futures for the last several months. In the last few months this Contango has been getting more and more severe until very recently. While there are great explanations within the VIX futures I think it is important not to lose track of what all of this talk is based on. SPX options.
This is a picture of what the SPX 2nd, 3rd and 4th month contracts looked like on October 5th
Notice the width between the 2nd month out and the 3rd and 4th. If we had thrown in the front month it would be even worse. This was a very big cause of the VXX getting slammed the way it has, and probably had a lot to do with the VXZ being hard to borrow. It also put longer term income trades at a distinct advantage to trades in the front month.
Here is what the 2nd, 3rd, and 4th months out look like now:
Notice that while the back months are still higher, the spread between the months seems much more normal. This affect has had a really strong affect on trading. It has made long term income spreads less desirable, it has slowed down a little of the VXX decay and is the main culprit in a VXZ chart that looks uglier than the hair growing out of my old lunch ladies mole. What is the cause of this?
Probably a few things, traders are probably getting the holidays out ahead of time. There may actually be less fear of SPX volatility exploding again; after all, it’s now been more than 2 years since the melt down, and of course. Finally, there seems to be some clarity on tax policy coming from the Capitol Hill now that the elections are over. What will happen going forward, who knows, however when it comes to the VIX, it really comes down to what is going on in the SPX options. The futures wouldn't trade the way they trade if the not for SPX options. Right now, options are saying that there is a reduced chance for a major volatility flair up in the near and midterm.
My seminar for TradeMonster begins on Wednesday; do not miss your chance to see this seminar as I think it will be really insightful. I will be teaching much of the knowledge I teach my option mentoring students about volatility, albeit a little more condensed. Trader's that can make it through this will be ready for my Level 2 Future Professionals Course. Sign up here: VOL
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