Another day, another slow one in the SPX, yet we continue to see the VIX futures point toward a bottom in IV. Despite a day where the SPX went NO WHERE, VIX futures actually continued to be slightly bid.
What's more, the 'bump' in the curve in February is becoming more and more clear. Traders are bidding up Feb and to pay for it likely overly killed November. I don't think a Feb buy is a bad idea, but I think November vol continues to be a scoop.
Submitted by msebastian on Fri, 10/18/2013 - 1:15pm
This morning as the SPY was sitting at up 4 or 5, the VIX was getting torched. At one point VIX touched below 12.5 and the futures looked like they could break 14. Then something interesting happened. Take a look at the SPY vs. the VIX once the SPY began to rally.
Notice that even as the SPY was rallying higher, VIX kept going up and up. This is even into a weekend, this almost always points toward some sort of near term top in the market and probably a near term bottom for the VIX. So far this year, this pattern has been especially accurate.
One of the great things about GOOG earnings is that they are typically the Thursday night before a major expiration. The value of this is that they are usually clear examples of how the market is pricing expectations of movement in the name. Basically, since the straddle expires tomorrow the straddle is essentially a pure play on earnings with nothing else in it. It also happens to be land on a standard contract month so the contract is extremely liquid relative to looking at a weekly contract.
Heading into earnings this afternoon, GOOG was pricing the straddle at 33.25 with the stock trading about 889.
The VIX got absolutely crushed today. Yet, at trading near 15% the index is still somewhat elevated given the forward risk of the market between now and thanksgiving, the VIX has a lot more to fall. The futures are also point toward VIX falling as well. Consider this, wiht more than 30 days to expire, the spread between VIX and VX futures is normally about 1.5-2 points. Currently, the spread is about .84.
Suffice it to say that the pressure on the market usually leaks out in various ways. We are not going the Jello route today but continuing on a theme of building pressure. Last week a lot of air went out of the volatility balloon and today it is running back in. If you bought the VXX straddles we mentioned yesterday you would be hedging the upside deltas by now.
The front 3 months in the VIX futures are backward. That is a sign of a move in VIX to come. We noted yesterday that the market for volatility was very thin. VXX Oct IV is up 17 point and Nov is up 12 points. The move in VIX is far and away over pricing the current move down in the SPX. Volatility is in another runaway situation.
The hopes of the weekend budget resolution faded this morning only to be resurrected by midday. The debate over the budget is turning the global equity markets into one big binomial trade. The two parties agree we rally, they don’t we crash.
If the stock markets are having a hard time, think about the volatility markets. One thing Black Scholes did not think of was the impact of liquidity on option prices. They thought about it, but it is really not in the model. The only proxy for liquidity is volatility in BS. Right now the volatility market is squishy like Jello. Jello looks solid but you can push you finger right through it and it wiggles when you move it.
Yesterday, we discussed how VIX could still drop quite a ways from its current level. However, that doesn't mean it made lots of sense to go short VIX futures or even SPX vol into this weekend. Take a look at the wicked move the VIX curve made from Tuesday the 8th to today:
Yes the VIX got crushed today. Dropping over 3% today as traders dumpped volatility and bought the market. The SPX had its biggest move since the 1st day of January in 2013. That being said, there could be a lot more room in this run. Think about this:
Yesterday, we discussed how there was a huge short squeeze on VIX and VIX products yesterday. We can see further proof that yesterday was a squeeze. Today, the SPX is actually down more than it was yesterday, yet the VIX is up less than 1.00 as I write this. One can see the difference in the dynamic of the move in SPX relative to the move in VIX.
A few weeks ago, Nikolaj Gammeloft over at Bloomberg put out a piece about the potential for a VIX short squeeze in the coming weeks. Well it looks like we got that today. Because while the SPX was down a little less than 1%, the VIX completely EXPLODED today, with a serious run on options taking place at the end of the day.