One topic that consistently confuses people is VIX curve structure. It’s not just the level; it’s the slope that matters. Let’s look at two curves with very similar underlying VIX prices. I the difference might be more clear.
On March 21st, 2013 the VIX closed at 13.99, a mere .30% lower than where the VIX is trading. Also a very similar number of days to expiration across the different contract months relative to where we are trading today. Notice the slope of the curve in the front two contract months:
One thing that is really interesting is how high realized volatility is in the VIX right now. While VVIX might be elevated, it actually pales in comparison to where realized vol on VIX cash is (even if the futures haven't been moving):
What causes this? One major thing to remember about volatility is that it represents standard deviations. The lower the price of the underlying, the lower the standard deviation should be. The VIX has, as you should know by now, really fallen off.
One of the things that we are constantly teaching our option mentoring students is that one cannot simply look at the VIX in a vacuum. The VIX is all about relative movement. Today, for instance, despite a move of less than 2 VIX points, I think the VIX really popped. Take a look at the move according to Livevol:
While the SPX barely sold off, only losing about 8 points (and much of that in AAPL), the VIX got a nice pop of about 1.9 points. Even adjusting for weekend (which didn’t really happen), the VIX moved up about 1.25 points, a big move relative to the SPX drop.
One of the things my options mentoring students often fail to grasp is that volatility is all relative. While it is true that the VIX is below its long term mean of around 20%, that does not mean that the VIX is low. If the market begins to settle into a low volatility period (as I think it could be), the VIX at 17 could be sky high. Just ask a trader 6 in the past whether the VIX of 17 is high or not, his answer would be sky high.
One of the things this blog tries to do is to teach option traders why one cannot blindly sell premium (or buy for that matter). We try to teach option traders that one has to have some sort of idea on WHY they are entering a trade. Here is a great example of something we have noticed at Option Pit:
While VVIX, the VIX of VIX, is relatively new as a listed index, there have been other similar measurements out for some time on the vol of VIX. If we have learned one thing, its this: while realized vol measure on VIX might be tough, since the histroy of active VIX options trading in 2006, when the IV of the options begins to approach 80%, it is time to buy VIX options, because the price of the options is going higher.
When viewing the market, many people look at today as a sigh of relief. That the world will not end and all is well. Personally, I don't see it. While there is talk out of Europe that a deal might get done, I do not think the markets are quite as comfortable with the movement as one might think. For starters, as I write this, IV in SPX options was down more yesterday than it was today.
What an ugly day for the markets and VIX. VIX and VIX futures were up sharply across the board. VIX is now at the high for the year.
It actually was worse than it looks too. While the VIX closed still in contango, it is dangerously close to backwardating. With Monday coming, the VIX will be at least .80% higher, and any down drift and things could get much worse. VIX looks like it is setting up for a real nose dive. The curve is now close to flattening.
There is an old saying on the floor: once a stock hits 90, it’s going to 100. The idea being that, once a stock gets the momentum to approach 100, it is probably going to get there. The same holds true for volatility. While volatility is itself mean reverting, uncertainty has a momentum to it. A few weeks back, when I wrote up a piece for Mad Money, I spoke about how the VIX appeared to be cycling down hitting lower lows and lower highs. I thought (and still do believe) that 2012 will be a good year for the S&P's. I then pointed out one important note: if the VIX can break 21 and hold it, the market is going to have some serious problems....