Weekend Review – VIX Futures and Options – 5/29/2016

With the strength in stocks last week VIX finished the week just 0.02 higher than the 2016 closing low of 13.10. Always remember that part of the equation on Fridays when looking at VIX performance relates to a weekend impact where the market is closed for two days. This is accentuated when we have a three day holiday weekend so don’t be surprised if VIX rebounds a little on Tuesday regardless of what the stock market is doing.

VIX Table Curve

About 20 minutes after the open on Wednesday last week someone came in and placed an order that has my attention. With VIX at 14.15 someone bought the VIX Jun 1st 16 Calls for 0.35 and then also sold VIX Jun 15th 18 Calls for 0.63 and a net credit of 0.28. Since we all know that the best underlying for a VIX option contract is the corresponding future I should note that the June 1st VIX future was at 15.10 and the June 15th contract was at 16.15. This may be a case of a trader taking advantage of the price difference between the June 1st and June 15th futures using options as a substitute.

Weekend Review – Volatility Indexes and ETPs – 5/29/2016

The S&P 500 rally along with the three-day weekend effect pushed VXST to finish Friday below 10.00 for the first time since July of last year. The VXST – VIX – VXV – VXMT curve moved lower and steepened a bit based on the calendar and the strength in the market.

VXST VIX VXV VXMT

Looking at the table below it is like several indexes and instruments are playing limbo seeing how low they can go. VXX and the unleveraged long ETPs lost 10% while the leveraged funds gave up almost 20%.

VXX TABLE

Check in on the ETP performance with the chart below I just amazed to think that UVXY was actually up 100% for 2016 about three months ago. Now the fund is down over 60%. I think there is a lesson on being short volatility in that statement, but I will save that for a non-holiday weekend.

VXX SVXY UVXY Comparison

VXX started out last week in the low 15’s and as the week got underway one trader decided that VXX was probably going to work lower over the course of the week. With VXX at about 15.10 they sold the VXX May 27th 15.00 Call for 0.30 and then used some of those proceeds to purchase the VXX May 27th 14.50 Put for 0.17 for a net trade credit of 0.13. Note on the payout diagram below that I marked the Friday close for VXX of 13.59 to demonstrate how this trade turned out.

VXX PO

VIX History Lesson – The Fiscal Cliff in 2012

I got a question on Twitter today about the potential for a volatility short squeeze. I think the question was rooted in how much activity and open interest there is in volatility oriented derivatives, but the instance I recall that felt like the move was overdone occurred in late 2012.

As the end of 2012 approached it appeared that the President and Congress were at an impasse over extending the Bush Tax Cuts from 2001. The pending result was commonly referred to as the ‘fiscal cliff’. Financial markets were very concerned and the S&P 500 lost 3% between December 18 and December 28. Over that same time period VIX rose over 30% from 15.57 to 21.79. The chart below shows VIX and the front month January 2013 VIX Futures contract from December 3, 2012 through January 16, 2013 (expiration date).

VIX Squeeze

Note the area I have highlighted with the purple box above. That is when the fiscal cliff news dominated the markets and caused a spike in VIX. Usually the front month futures contract, especially where there a couple of weeks remaining to expiration, will not move in sync with a spike in VIX. This was not the case with the fiscal cliff and one of the theories is that this piece of news coincided with the year coming to an end.

Here’s the theory. Make sure to use Billy Ray Valentine’ voice as your narrator. There’s a couple of days left to the end of the year and you work for a hedge fund. One of your strategies that worked so well in 2012 was being short VIX futures playing the drift down the curve to spot VIX into expiration. You look up at your screen on December 28th, and you see VIX moving higher, you are short January futures and the futures aren’t acting like they are ‘suppose to’, that is lagging the move in spot VIX. Your year-end bonus and performance is quickly going downhill. Maybe you jump in and cover your VIX futures short and salvage what is left of your year.

Weekend Review – VIX Options and Futures – 5/22/2016

The combination of VIX moving lower and June becoming the front month put some pressure on the June futures last week. I think maybe the lack of news flow expected over the next couple of weeks has something to do with that as well. Note the bifurcated futures performance from last week with many longer dated futures rising, which maybe could be the risk of higher rates or an ‘interesting’ presidential election hovering over the markets. Finally, I always like to periodically point out the ‘dip’ that is December futures. It’s already showing up and is due to the number of holidays that occur between December VIX expiration and the S&P 500 Index options (SPX) that are used to settle VIX in December. This year it may be also be function of the markets assuming the election uncertainty will be behind us.

VIX LT Curve Table

Midday on Friday someone came in and got some tail risk protection for real cheap. With spot VIX around 15.50 and the June VIX futures nearly two points higher around 17.50 there was a buyer of an out of the money call spread using the standard June 15th VIX calls. In a few different lots they purchased the VIX Jun 30 Calls for 0.18 and sold the VIX Jun 40 Calls for 0.07 and a net cost of 0.11 per spread. Any volatility event between now and the market open on June 15th could result in quite the payoff as seen below.

VIX PO

Weekend Review – Volatility Indexes and ETPs – 5/22/2016

With the S&P 500 zig zagging this week, but finishing up by just over a quarter of one percent the curve was little changed. With one exception, VXST dropped 10% after we got past the FOMC minutes and the markets started to look forward to nothing for the next couple of weeks. VIX and VXMT rose and VXV was lower. I can’t remember the curve shifting like this ever, but since three out of the four moves were pretty small I wouldn’t read too much into it.

VXST VIX VXV VXMT

The long VIX related ETPs came under some pressure as the front month moved to June and contango remained pretty steep. Even VVIX came down a bit last week, but I think we can attribute that to a lack of eminent and known potential market moving events until after the Memorial Day holiday.

VXX Table

SVXY topped the 10% year to date return level. Long term holders of SVYX (or those that have had the fund since the last day of 2015) earned that 10%.  What I mean by that is that at one point in 2016 SVXY was down just over 38%. Not only does SVXY give individuals a method of being consistently short volatility, but it also gives me a teaching example on how being short volatility is like picking up nickels in front of a steam roller.

VXX SVXY UVXY

I got a question about VIX and Fridays via twitter last week. Specifically, I was asked if VIX is more likely to be lower on a Friday than any other day. I knew the answer, but wanted to update the numbers before reporting back.

The numbers below show the one-day change for VIX based on the day of week from January 2, 1990 through May 20, 2016. I highlighted both Monday and Friday to make a point about the impact of weekends. VIX is calculated to show a 30-day outlook. However, this outlook is based on calendar days, therefore the weekend has a bit of an impact on VIX. In fact, there is a weekend impact for all implied volatility as the market adjusts for the weekend on Friday afternoons. Note that VIX is down just over 60% of Fridays while VIX is higher almost 65% of Mondays. The average, not taking days into account is 52% lower and 48% higher.

VIX Day of Week Update

 

Now the bad news. VIX futures traders adjust for this as well so the record of up versus down days for the index does not translate to the futures markets. I feel it was my duty to pass along that tidbit of news before closing out this blog.

Weekend Review – VIX Options and Futures – 5/15/2016

After starting the week off on a bullish note, the S&P 500 finished out down just over a half a percent for the week. VIX was up just a bit more than 2%, most likely being held back by weakness that was associated with the S&P 500 moving higher on Monday and Tuesday last week.

The spread between the May VIX future and spot index is pretty narrow finishing Friday at less than a point. Not only did the spread between the May futures and spot VIX index narrow, but a portion of the curve actually dropped. June through October futures were lower despite the rise in VIX. The result is a slight flattening of what has been a pretty steep curve over the past few months.

VIX Curve Table

With May expiration rapidly approaching, most traders seem to be looking beyond May to June. I saw someone Friday morning who seems to be looking out to July for a volatility spike. With VIX at 14.23 and the July VIX futures at around 18.60 someone came in and purchased 6700 VIX Jul 20th 21 Calls for 1.92 and went several strikes higher and sold the VIX Jul 20th 35 Calls for 0.42 and a net cost of 1.50. The payoff diagram below highlights all the important price levels.

VIX PO

The maximum profit on this trade comes to 12.50 per contract with July VIX settlement at 35.00 or higher. The break-even price is 22.50 and finally anywhere from 21.00 or lower the cost of the spread, 1.50, is equal to the maximum loss.

Weekend Review – Volatility Indexes and ETPs – 5/15/2016

There was a slight twist in the VXST – VIX – VXV – VXMT curve last week as the shorter dated indexes rose and the two long dated indexes dropped slightly. Although unusual, I am not reading too much into this as the curve was already pretty steep and remains so after relatively small changes across the board last week.

VXST VIX VXV VXMT Curve

While updating the numbers below the first thing that stood out to me was the continued elevated level of VVIX. With VIX up a bit, but still in the 15’s the demand for VIX options remains strong. This buying pressure is usually spurred on by purchasing of VIX calls which payoff in the event there is a selloff in the equity markets and a subsequent rally in VIX. TYVIX worked back up to relatively higher levels as concerns about the US economy caused a drop in interest rates.

VXX Table

SVXY rose slightly last week and VXX was down just under 2%. The whipsaw that was last week in the stock market did put more pressure on UVXY was down by over 4% while places the fund down over 48% for 2016. I continue to marvel at UVXY being off almost 75% from 2016 highs.

VXX UVXY SVXY Big

I’m always on the lookout for unusual trades in the VIX related ETN space. I know buying a call is not exactly the most unusual trade, but when the strike price of the call is 500% higher than the underlying market it catches my attention. Mid-day Friday over about a two-hour period, with UVXY trading between 13.12 and 13.46, someone appears to have loaded up on UVXY Jun 17th 100 Calls. Specifically, over 6,000 were purchased with the buyer paying between 0.05 and 0.07. UVXY is known for periodically experiencing tremendous upside moves, in fact the fund was up over 100% at one point in 2016. However, for UVXY to run to 100, we really would be looking at a market meltdown surpassing our experience in 2008. Also, note that these options only have five weeks until expiration, therefore the meltdown (and UVXY rally) needs to come quickly.

Weekend Review – Volatility Indexes and ETPs – 5/8/2016

The S&P 500 was down 0.44% last week which places the index up only 0.65% for the year. Three out of the four S&P 500 focused volatility indexes were also lower last week, despite the drop in the S&P 500. I find the longer end of the curve holding up like it has for most of 2016 interesting as well as worrisome, at least if you are bullish on stocks.

VXST VIX VXV VXMT Curve

In the ETP space VXX was down by 5.11% and UVXY lost a little over twice as much at VXX. SVXY put up a decent week gaining 4.75%. Bond volatility in the form of TYVIX was down by about 5%. VVIX remains relatively high at 88.86 which shows that despite the drop in VIX, there is still demand for VIX calls.

VXX Table

The next chart is an apples to apples comparison of VXX, UVXY, and SVXY in 2016. After last week SVXY remains the only one of the three to remain in positive territory. UVXY was up as much as 100% this year before give it all back and then some.

VXX SVXY UVXY Perf

UVXY closed at 15.27 on Friday, which for one trader, was an exceptional way to finish the week. About lunch time of Friday with UVXY at 16.43 a trader came in and sold 200 of the UVXY May 13th 16 Calls at 1.41 and then purchased 200 of the May 13th 19 Calls for 0.56 and a net credit of 0.85. The goal, is for UVXY to finish next week below 16, which is why I say they probably were pretty happy with what UVXY did between trade execution time and the close of business.

UVXY PO

Weekend Review – VIX Options and Futures – 5/8/2016

VIX dropped last week, with a big part of the drop coming Friday afternoon. Note the futures followed suit, but specifically note that the front month May future gave up a little more ground than spot VIX. This is sort of common when we have an employment number. Also note how flat the curve is from July through November – the theory is that the Fed is out of play between the conventions and the election which may result in relative calm for the financial markets.

VIX Curve Table

Late Thursday a trade looking for some sort of move higher out of VIX and May VIX futures showed up at CBOE. There was a buyer of 500 of the VIX May 18th 23.00 Calls for 0.29 and sold 750 of the VIX May 18th 32.50 Calls for 0.07 each. Breaking this down to a smaller size they bought 2 of the 23.00 Calls for 0.29 and sold 3 32.50 Calls for 0.07 each – a net cost of 0.37 for each 2 by 3 spread.   As mentioned the trade occurred Thursday so the corresponding prices are Thursday’s as well. They didn’t get the volatility spike on Friday after payrolls, but they still have about a week and a half before time runs out on this trade.

VIX PO

Morningstar Is Adding New “Option Writing” Category on April 29 – By Matt Moran

In my opinion, the launch of a new Option Writing category by Morningstar this week has tremendous potential to boost long-term interest in and acceptance of options-based strategies by portfolio managers, financial advisers, and consultants.

On April 29, 2016, Morningstar is adding a new Option Writing category to its U.S Retail Category system, and the Category Index is the CBOE S&P 500 BuyWrite Index (BXM).

BACKGROUND ON DEVELOPMENTS IN PAST YEARS

Over the past decade I have spoken to numerous representatives of different mutual funds that used options, and the top group of complaints I heard from these reps involved the Morningstar categories – these reps told me that the Morningstar categories were very important and influential, but the categories applied to their options-based fund (such as “Long-Short” or “Large Blend”) could be updated to be more accurately descriptive. Some of these representatives said that (1) they individually met with Morningstar to discuss the category applied to their fund, (2) they were interested in a the possibility of new Options category, and (3) they asked if CBOE could discuss the category topic with Morningstar. In 2014 I had a two-hour meeting with key Morningstar reps in which (1) I gave them an overview of performance of options-based benchmark indexes (such as the BXM Index) and some options-based mutual funds, (2) Morningstar reps told me that potential new Morningstar categories have several requirements, including the fact that there should be enough constituents to form the basis for reasonable peer group comparisons (e.g., a dozen funds generally would not be enough to generate a new category), and (3) I told Morningstar reps that in the future I would provide more information on many dozens of options-based funds. In early 2015 I was pleased to send to Morningstar a new study by Keith Black and Ed Szado that provided a list of 119 ’40 Act funds that used options (see more info on the study below).

KEY MORNINGSTAR CATEGORIES

Morningstar states that their categories “help investors identify the top-performing funds, assess potential risk, and build well-diversified portfolios.” In the U.S., Morningstar supports 122 categories, which map into nine category groups (U.S. equity, sector equity, allocation, international equity, alternative, commodities, taxable bond, municipal bond, and money market). The category group indexes and category indexes listed with each category are used in Morningstar’s tools and reports to show performance relative to a benchmark.

Two of the key Alternative categories that could be of interest to people who invest in options or volatility products are:

  Option Writing (introduced on April 29, 2016)

Option writing funds aim to generate a significant portion of their returns from the collection of premiums on options contracts sold. This category includes covered call strategies, put writing strategies, as well as options strategies that target returns primarily from contract premiums. In addition, option writing funds may seek to generate a portion of their returns, either indirectly or directly, from the volatility risk premium associated with options trading strategies.

  • Category Group Index: S&P 500 TR USD
  • Category Index: CBOE S&P 500 BuyWrite BXM
  • Morningstar Index: Morningstar US Market TR USD

  Volatility (introduced on April 30, 2011)     

Volatility strategies trade volatility as an asset class. Directional volatility strategies aim to profit from the trend in the implied volatility embedded in derivatives referencing other asset classes. Volatility arbitrage seeks to profit from the implied volatility discrepancies between related securities.

  • Category Group Index: S&P 500 VIX Short Term Futures TR USD
  • Category Index: S&P 500 VIX Short Term Futures TR USD
  • Morningstar Index: Morningstar Cash TR USD

LESS VOLATILITY FOR BXM BENCHMARK INDEX

Morningstar’s Category Index for the new Option Writing category is the CBOE S&P 500 BuyWrite Index (BXM). While there are some people who still wonder if use of options usually adds to volatility, see the chart below and note that since mid-1986 the BXM Index had less volatility than the Citigroup Treasury Bond, S&P 500, Russell 2000, MSCI EAFE, and S&P GSCI (commodity) indexes.

1 - BXM standard deviations

LIST OF 119 FUNDS THAT USE OPTIONS IN 2015 STUDY

In 2015 Keith Black and Edward Szado published a paper “Performance Analysis of Options-Based Equity Mutual Funds, CEFs, and ETFs.” You can visit www.cboe.com/funds to click on different versions of the paper — Slide Presentation (30-page PDF), Highlights (4-page PDF), and Paper (28-page PDF).

The 2015 paper found that the number of ’40 Act funds (including mutual funds, ETFs and closed-end funds (CEFs)) that used options grew from 10 in the year 2000 to 119 funds in 2014, and the paper provides a list of the names and ticker symbols for all 119 funds.

2- Number of funds

In the 15-year line chart graph in the 2015 Black/Szado study, the black line (representing the returns of the U.S.-equity-focused options-based funds as a group) and the green line (representing the CBOE BXM Index) both tracked each other pretty closely.  At the end of the end of the 15-year period, both the options-based funds and the S&P 500 rose 86%, the BXM Index was up 82%, and the MSCI EAFE Index (in US$) rose 46%. All these returns are pre-tax, and past performance is not predictive of future returns.

3 - Line chart growth

In the bar chart by Black & Szado showing annualized standard deviations, the Options-Based Funds (represented by the black bar) had lower volatility than the S&P GSCI, MSCI EAFE. S&P 500, BXM, and Citigroup 30-Year Treasury Bond indexes.

4 - Standard Devia Fds

CONCLUSION

I am looking forward to learning more about which funds will be included in the new Option Writing category, and I will be interested to see if the most funds in the new Option Writing category have less volatility than most funds in Morningstar’s domestic and global stock categories.

To learn more about options benchmarks. options white papers and options-based funds, please visit www.cboe.com/benchmarks and www.cboe.com/funds.

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