In VIX Trading

VIX Index Trading

VIX Index Trading – VIX related trading strategies often appear complicated and confusing; the following article aims to outline how the VIX works as well as how it can be used to gauge market sentiment and make more prudent and profitable trades. Since the VIX isn’t influenced by any 1 person or entity, but instead the outcomes of millions of transactions by millions of traders from all over the world it is a useful tool to gauge market sentiment. VIX is a directly a sign of the degree of implied volatility in the options market and thus the wider market. In the event the VIX move up greater than 20, then fear is beginning to enter the market and it is forecasting a greater risk atmosphere. The VIX is often known as the fear index, the reason being that it jumps when investor fear increases. The VIX can frustrate investors. Recently the VIX has reached its lowest levels in history and for a sustained period unseen before. Low volatility has been a concern for some who have even suggested the VIX is a broken measure of market sentiment, masking political and other hidden market risks daily share price movements may not capture.

‘A high VIX implies that the marketplace is expecting a greater volatility and vice versa.‘

 

 

Ample Liquidity

Liquidity, particularly in the initial front two contract months (2 nearest futures expiry dates), is plentiful and so is open interest in options. Volatility is simpler to measure than the value of a stock given that it scientifically boils down the current future outlook for the whole market into one reading.

It’s likewise helpful to critique the charts of related markets. Following are some very simple trading rules that, an individual can follow. There are a lot of bear market trading vehicles that may be used to earn money in a bear market or following a dip.

Simply speaking, if market participants are buying put options over call options, they are betting that markets will be heading lower. As put options have turned into a preferred method of hedging portfolios, a spike in the VIX is considered a signal that investors have become cautious about downward pressure on the market. VIX futures do not expire on the exact same days as equity options. For the VIX Index, however, it isn’t realistic to buy each and every SPX option that’s used to figure the VIX’s price.

The VIX Index Game

Below is an outline of how best to use the VIX and it’s related securities when looking to make investment or trading decisions.

The daily chart below shows 2 aspects of the VIX index divided by each other, VXV / VIX (Mid Term VIX Futures / CBOE:VIX). The chart highlights when VIX and thus market valuations have become stretched in either direction. One profitable strategy includes purchasing bullish positions when this figure is between 0.8 and 1.0 whilst looking to reduce risk, certainly in the short term, when the figure is between 1.3 and 1.35.

The chart below shows how when VXV (Mid Term Volatility Futures) is divided by the CBOE VIX published value, the chart peaks and troughs around these levels:

VIX index trading

VIX index trading

Looking at the SP500 chart over the same period, a good example is the drop in mid-May and the corresponding reading on VXV/VIX. Both taking a big leg down with the volatility measure hitting the 0.90 level before rebounding.

 

SP500 - VIX Index Trading

SP500 – VIX Index Trading

From this traders can underline the indicated resistance zone and adhere to VXV/VIX levels to determine entry and exit points. They can speculate and hedge by using VIX Index related ETN’s (Exchange traded Notes) such as VXV itself or VXX, an ETN which closely tracks short term VIX futures. Without another method to assess the amount of volatility in the market, options traders wouldn’t be capable of making even mildly educated decisions on the best strategy to utilize for the prevailing market conditions.

VIX Signals

Simply speaking, if market participants are buying put options over call options, they’re betting that markets will be heading lower. As put options have turned into a preferred method of hedging portfolios, a spike in the VIX is considered a signal that investors are becoming cautious about downward pressure on the market. VIX futures do not expire on the exact same days as equity options. For the VIX Index, however, it isn’t realistic to buy each and every SPX option that’s used to figure the VIX’s price.

A signal is something, but the entry point is fundamental. The VIX and its components, Short, Mid and long provides us with an excellent sign of the amount of fear and greed on the market. Examine the RSI and VIX to be sure that a swing reversal isn’t imminent.

 

Volatility as an asset class

As the popularity of the VIX increase and people become aware of not only how to make money in VIX related instruments but also as a tool to gauge the market as a whole there are more and more indexes and asset classes being measured using the same principle.

Recently volatility has become a new asset class for investors wanting to diversify their portfolio strategy and to take advantage of downturns and market dips. Given its complexity, volatility provides a wide range of investment opportunities and has developed from a niche investment strategy for institutional investors to an asset class accessible for smaller retail investors in the form of ETN’s, ETF’s, certificates and structured products. For institutional investors, volatility is tradable in the form of listed and OTC derivatives, in particular on the S&P500, EURO STOXX 50, FTSE 100, DAX, SMI and the Nikkei. For retail investors, they can gain exposure through ETN’s such as VXX, TVIX and VXV.

Given how much the marketplace is focused on interest rates today, another crucial index to follow is VXTYN, CBOE 10-Year Treasury Note Volatility Futures. Something similar applies in the stock exchange. It is just where the current market is prepared to trade the premium or present measurement of danger. We will discuss this further in future articles.

 

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