Big Time VIX Action Suggests A Mostly Calm August

| August 5, 2015 | 0 Comments

flat graphBig Time VIX Action Suggests A Mostly Calm August

The VIX (S&P 500 Volatility Index) is a measure of implied volatility levels on S&P 500 options.  As many of you know, the VIX is often considered the market’s fear gauge.  Overall market volatility is most commonly tracked by watching the VIX.

For those who are interested in learning more about the VIX, the CBOE VIX mini-site has a ton of valuable information on the index.  Follow the link if you want to learn more.

Trading volatility – or volatility products – has become extremely widespread.  It’s true for options traders of course.  But, even those traders who never touch options may still trade (or at least follow) volatility levels.

I’ve written a lot about volatility in the past, and you check out this article to learn more about why volatility is important.

With that being said, let’s take a look at interesting VIX action from this week.  It could give us some clues as to what to expect from the market over the next few weeks.

Here’s the deal…

A massive three-legged trade hit the wire this week in VIX options.  The August 16/18 call spread traded 100,000 times, financed in part by the sale of August 12.50 puts.  The total cost of the trade was just $0.03 per spread, or $300,000.

The max profit for the trade is realized if the VIX closes above 18 on August expiration.  Total profits in that situation would be $19.7 million!  Max loss depends on how far the VIX could potential fall under 12.50.

Okay, so what’s the story with this VIX trade?

Here’s the chart of the VIX:

large trade in VIX options, a chart of VIX

The VIX is back under the 50-day moving average after briefly spiking at the end of July.  The benchmark volatility index has also pulled back to near ‘normal’ bull market lows.

The trader behind the large August spread is betting the VIX isn’t going to fall below 12.50, at least for any length of time.  Keep in mind, even if the VIX does drop lower, what’s the floor?  Maybe 11?  On the other hand, he or she doesn’t see too much upside in the VIX either, with the spread capped at 18.

So, given the recent history, how likely is it this VIX spread will be a winner?

Most likely, the VIX call spread is an almost-fully financed hedge.  Although, the 16-18 range of the spread is close enough to the money that it could be a speculative trade.  However, hedging is a more common usage for VIX upside calls.

The financing of the call spread by selling puts is an interesting twist on the hedge (or speculation).  If the VIX remains slightly elevated (like it has been for the last several weeks), then the trader gets the hedge for free.  If the VIX spikes, there’s huge upside potential.  But, if the VIX somehow returns to 11, the trader is on the hook for some large losses.  It will certainly be interesting to follow this strategy to expiration and see how it performs.

Yours in Profit,

Gordon Lewis

Note:  Gordon Lewis has been trading options for more than 15 years and he now writes and edits for  You can sign up for the newsletter and get a free research report. We are your go-to source for top notch options trading research.

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Category: Options Volatility Watch

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