What’s The Deal With This Massive VIX Trade?

| January 26, 2015 | 0 Comments

derivativesWhat’s The Deal With This Massive VIX Trade?

As an option trader, you should always be keeping an eye on what the VIX is doing. Even if you’re not a volatility trader, the VIX should give you an idea of how cheap or expensive options are on a relative basis.

Keep in mind, the VIX (S&P 500 Volatility Index) is the most popular way to measure option volatility. In terms of getting a snapshot of what volatility is up to (and how concerned investors are), you can’t do much better than glancing at VIX levels.

For a more detailed description of VIX, you can check out the CBOE’s main VIX page here.

While the VIX isn’t a tradable instrument, VIX options and futures are extremely popular. Both derivatives are used often by institutions for hedging or speculating on future volatility.

To get an idea of just how popular VIX products are, the average daily volume for VIX options was a whopping 632,419 in 2014. Keep in mind, that’s per day! To get an even better idea of the numbers, look at the VIX options and futures page here.

One of the interesting things about VIX options is it tends to draw in some really big trades. Essentially, the biggest trades you’ll ever see tend to happen there.

Here’s a perfect example from last week…

On Friday, a trader came in and purchased 200,000 VIX puts! That’s not a misprint… 200,000 – with five zeroes!

More specifically, the trade was a purchase of 200,000 February 14 puts for $0.15 and $0.17. For simplicity sake, we’ll say the average price was $0.16. That means the trader dropped a cool $3.2 million on the trade!

Before I get to the possible reasoning behind the trade, let’s look at some data. The VIX closed Friday at $16.66. Last week, the VIX was still trading over $20, which is basically the index’s long-term average price. The 52-week high is $31.08, while the low is $10.28.

So what’s the story with the massive VIX trade?

In a nutshell, the VIX has been trading at a higher than normal level for a sustained amount of time. Typically, the volatility index spikes and then drops immediately back down. However, the past couple weeks, it’s remained elevated.

At least part of the reason for the added volatility is the crash in crude oil. Geopolitical risk has also been a major concern, particularly in Europe.

Check out the chart:

huge trade in VIX options, a chart of VIX

As you can see from the chart, volatility remained elevated for the better part of six weeks. It’s the first time it’s done that for some time. However, the VIX came back down to earth at the end of the week.

The reason behind the normalization in volatility is likely the huge ECB stimulus plan. Europe’s quantitative easing is having the same market-calming effect as our own QE did for US markets.

As such, the huge put purchase is likely a sign that volatility is going to return to normal levels. And, the recent period of higher VIX levels is at an end (for now).

So, should you buy VIX puts?

It’s not a bad idea to be short the VIX if you like to speculate on volatility. With this particular trade, the index would need to close under $13.84 by February expiration to make money. I think that’s entirely possible.

However, you could spend a little more and buy the 15 or 16 strike in February if you want to increase your odds of success.

Yours in Profit,

Gordon Lewis
Options Trading Research

Note: Gordon Lewis has been trading options for more than 15 years and he now writes and edits for Optionstradingresearch.com. 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.

Tags: , ,

Category: Options Volatility Watch

About the Author ()

Gordon Lewis is the Chief Investment Strategist and editor for the popular daily newsletter – Options Trading Research. He’s also editor of our dynamic theme-based options trading service, Advanced Options Adviser, and one of the key analysts behind the highly successful Options Trading Wire.