Thursday, December 10, 2009

VIX Expiration on the Horizon

In addition to options expiration for equities and indices, next week also brings the laying to rest of December VIX options. Tuesday will be the last trading day with settlement occurring on Wednesday.

With a mere three trading days remaining until the final breath of life is snuffed out of the December cycle, might there be a few short term opportunities for those willing to stomach the high gamma/theta drama arising on the brink of expiration? Let's take a glimpse at the volatility landscape to see if we can build a case for an impending bullish or bearish move in the VIX over the coming days.

In recent weeks both 21 and 10 day historical volatility have taken a tumble to a "watching paint dry" level of 13%. As most no doubt already know, this is due to the resilient 25 point range that has developed in the SPX. The range is assuredly lauded by condor traders and premium sellers while being loathed by premium buyers and volatility seekers. Since realized volatility is seemingly on vacation, the VIX hasn't found much of a reason to muster up a sizable spike in some time (short of the Dubai hiccup). Sitting at its current level of 22.3%, almost 10 pts. higher than historical volatility, one would think that a move higher in the VIX is unlikely, particularly if the SPX continues channel surfing.

On the futures front, with the December VIX futures closing at 22.50 (a .20 premium), they have virtually caught up to the cash... or should I say cash caught up to the futures? Suppose we think the VIX is sideways to down into Dec expiration. How's about simply buying a put option? Here are the current values of the three closest December puts as of yesterday's close:

VIX 24 put $1.90
VIX 22.50 put $.70
VIX 21 put $.15

I'm never a fan of buying short term, OTM options so I'd focus on buying either the 22.50 or 24 strike. Since the 24 put is currently $1.40 ITM, it has $.50 of extrinsic value and an expiration break even at $22.10 or lower. Due to the 22.50 put currently residing ATM, it's $.70 of premium consists solely of extrinsic value and its expiration break even is $21.80.

If you were of the opinion that the VIX lifts into expiration, shorting the 22.50 puts is probably the play, though I think the wind is in your face this go around.


Bill Luby said...

Nice take.

Also consider that the VIX SOQ will be before the FOMC announcement on Wednesday -- so Tuesday and Wednesday (at least pre-announcement) will likely be less volatile than typical trading days.

Tyler Craig said...

Great point.

In hindsight the surge on the Dubai news as well as this Tuesday's pop served as the best potential entries. Today's gap down obviously further exacerbates missing the ideal entry for the long VIX put plays.


Great picture