VIX May Have Finally Caught Up

10/20/2014 8:00 am EST

Focus: OPTIONS

Mark Sebastian

Founder, OptionPit.com

For Mark Sebastian, of OptionPit.com, it appears that implied volatility is trading at a premium to the S&P 500, so, even though Mark can’t say for certain if the selloff is over or if it has another leg down, he does think it means liquidity is likely returning to the options market.

The market has been moving at a clip of between 1-2% (last Thursday aside) for a few days now.  If one looks at ATR, Thursday looks crazy as well in fact.  Looking at GARCH from the last ten days relative to SPX IV (similar to VIX), it appears that implied volatility is finally trading at some sort of premium to SPX.

chart
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So what does this mean?  Is the selloff over, or does the selloff have another leg down?  The answer is I have no idea (although I think we will have another trip lower before this is over).  What it does mean though is that liquidity is likely returning to the option market again.   When IV is really underpriced the only people who can really trade it are market makers who likely

  • Owned Premium
  • Can trade the liquidity around selling premium

Essentially, while the market is moving at 1-2% a day, expect the VIX not to take off to the races, because it’s priced in, whether the market sells off or not.  Additionally, I am watching for a 1-2% sell off met with a lower VIX.  That could be a sign of a turnaround.  I would note that VVIX is in, again pointing toward a slow down in the race to insure.

The Trade:

If the market is going to move this way for the next few days, the VIX futures have a lot of catching up to do relative to cash, with VVIX still high, some sort of VIX buy-write might make sense.

By Mark Sebastian, Blogger and Contributor, OptionPit.com

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