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Who Is Selling Wholesale Vol And Why?
The chart below indicates that while the market is exactly where it was in early December 2008, the VIX has droped by almost 60%. And traditional theories that suggest that the corporate risk is merely being offset to sovereign don't seem to hold much sway- US CDS is again trading at a ludicrously tight level. So the question arises: just who is selling 1 month forward vol, and just how are they hedging effectively. Granted, one could make the argument that risk was priced at "total chaos" levels in November and December, the market was running even more like a headless chicken in March and breaching lower lows, yet the VIX was unable to even threaten penetrating prior resistance levels.
Alternatively said, even with net option open interest increasing, the VIX shows barely any indication of widening. Who is writing these options? Who is buying these options? Why (for both camps), and what do they know (don't know) that we don't know (know).
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scary
"I am bernankes sweaty palms..." or "I am the coming death blow to the consumers 401k"
read on a few forums that several traders noticed that there was a higher bid than ask price for consecutive minutes on their trading platform on about half a dozen NYSE stocks.
Liquidity, my man, liquidity...
perhaps:
"I am the cusp of the supercrash?" or "I am the economy's ruptured spleen."
These new tools are so lovely, but a potential nightmare for the English majors who have had a rest from editing because they may have been giving all the rest of us some leeway...YIKES!
Agroterra, you are one of my favourite commentors, could you make your font a little bigger! Don't want to miss your comments! thanks :)
Hi Shaza! Thank you for the nice words, and i have been greatly enjoying your comments!
Looks like since i posted my little comment about the English majors, suddenly i can't do anything about the size of the font, so I hope this note will be a bigger font.
Frankly, i have a ball with different fonts, and wish we could add color too--it all just adds dimension...so we'll see.
The font is much better! I look forward to your new comments! I wish we could upload charts! Maybe one day...
@agrotera,
I've edited your post to remove the font forms -- rich editing/fonts was something we considered briefly, but have since decided against.
Thanks,
-Sacrilege.
I've just found this site, via Matt Tiabbi's blog and I'm really digging it. Only problem is, every so often I come across a post like this, which I am having a very hard time understanding. Seems like there is something important in here, I just have no idea what anything means. I have a basic understanding of options and derivatives, and I looked up VIX on wikipedia. Still totally confused. Someone translate please. I really want to understand.
Hi Anon,
I have been trading for over 12 years and I too find this site a little advanced in some areas ! That is good, advanced will push the learning curve very quickly.
If you just keep reading the articles and the suggested readings at the end of articles you will pick up very quickly. Also you can learn heaps from just reading the comments. And the forums offer a beginners site, very handy forum. Don't give up, just keep reading and I promise you it will just click!
Good luck, mate!
OK, I'll give it a shot. VIX options are basically a
bet on how large the swings in the SP500 will be. If
the VIX is high, that means fairly large swings in the
index each day; if it's low, then action will be more
muted.
Now, in keeping with the general conspiracy theory
mindset here, many people have noted the fairly
suspicious ramp into the close that has occurred
frequently over the past few months. (Thursday was an
exception - perhaps all the Goldman guys left early
to get to the Hamptons?) This has, as Tyler noted,
led to a general decline in the VIX. At the same time,
the open interest in the options is rising. Now, if
you knew you could manipulate the close so that there
weren't going to be any large changes in the SP500,
wouldn't you be writing as many out of the money VIX
options as you could? Or, if you felt you could
manipulate the changes so the VIX would actually fall,
you could be writing at the money options and make a
bundle there as well. Of course, no one has any proof
of this, just as no can prove the market's being
manipulated. But I think Tyler's point is - and he
can correct me if I'm wrong - that it certainly does
not pass the "smell test". And if past experience is
any lesson, the SEC won't catch on until about 2020.
Hey well written bud. I didn't fully get it either. Thanks.
I think what you're pointing to is a derisking bubble, where the perceived volatility continues to decrease despite the fundamentals of the market. I don't play the VIX, but I wouldn't be surprised if the low overall volume of the market is enough to send this thing screaming up or down by a few participants (ie investment bankers). For this reason, tracking the credit default spreads may prove to be a more accurate approach to risk analysis than what the VIX can offer.
VIX Index = Markets 1 Month (30 Day) anticipated or implied volatility of the S&P 500.
You are unable to trade this.
VIX Options are based on VIX Futures contract. e.g. a Sep 2009 Call option with a strike of 35% is in essence buying an option on the markets' 30 implied volatility on expiry in September.
"VIX options are basically a bet on how large the swings in the SP500" -> Infact they are a bet on how large the market perceives the 30 day swings in the market will be.
You are quite correct. I was trying to keep it
relatively short and sweet. Thanks for adding the
clarification.
Damn those captchas - where's my calculator?!
ha ha, yes i agree anonymous, i have just found this site also through reading articles from Mike Whitney and Paul Craig Roberts who both cite zerohedge. i thought i was pretty on the ball with economics but this article got me too. Something to do with volitility index but i still cant figure what it means exactly. Best bet is to keep reading other peoples comments for and see what they think. It doesnt sound very good though so far, bad news for economy? i will keep reading.
Is it true that if large players knew the market was fixed, the VIX would fall?
Whatever the answer to that question, it is true that the "herd" believes the market is the/an equivalent of fixed.
Thursday's behavior was truly bizarre. The market falls hard and then suddenly flatlines, you should excuse the expression.
And when it flatlines, well, it flatlines. The net effect on VIX of Thursday was probably minimal. There really was no volatility at all.
ha ha
is that the shaza that used to be over at mish's blog? hey ya!
small world this blogosphere...
HEY Alarm, yes it it moi! Great site isn't it!!!! Lots of Mish people here too...what a great addition to the all the finance sites! And one that really helps in trading...how is it on the other site, I stopped posting when it became a whinging site instead of a proactive site!
"In fact, when the VIX is more than 10% higher or lower than the VXV, as was the case toward the end of last week, it often signals a forthcoming change in the volatility trend and in the direction of the underlying.
Unlike the VIX, the VXV is an index that has no tradable products associated with it, such as futures or options. This volatility index, can, however, enhance one's understanding of the VIX, of the term structure of volatility and of some of the short-term and longer-terms uncertainties associated with stocks.
As is often the case in the investment world, slapping a generic interpretive template on an indicator such as volatility can be a recipe for disappointment. With the CBOE S&P 500 Three-Month Volatility Index, investors can gain a broader understanding of volatility and add a new dimension to their trading."
(from the article I cited in Barrons above)
To answer TD's KOAN..." Who is buying these options? Why (for both camps), and what do they know (don't know) that we don't know (know)" Answer: They know each other...
if there is a lot of options activity how is it
weighted for puts and calls?
if the market is headed sideways for a while then
maybe someone wants some covered calls income.
the vix is low because the nerves in the financial
markets have all been severed from massive
markets manipulation....doe pushed oil down last
summer, uncle bendmeover pulled large slosh from
the banking system in september, gold is manipulated
like a cheap whore, and gs has bank of sparc
stations trading stocks....so who is to feel
pain? it's financial leprosy....
with the markets sideways for about 2 months it
does not seem surprising that options makers
are lulled into minimal volatility. but the storm
is coming and i expect september to ugly ugly
ugly....
puts were being used instead of shorts by a lot of folks last December, after the SEC screwed the short traders...
that was the primary cause of the BIG step change up in the VIX that is still working itself out
The implied volatility from at-the-money equity index options is a biased predictor of future realized volatility. It is biased on the high side. The situation is analogous to forward rates and future realized spot rates. Given the bias, a sensible trading strategy involves selling long-dated equity index options and rolling the position regularly. Index option traders are aware of this and they frequently take net short positions. The decline in the VIX has facilitated a transfer of wealth from equity investors keen on purchasing catastrophic insurance to informed traders/specialists who are reasonably betting on the normal trend prevailing. No conspiracy theory about manipulated markets is necessary to explain the patterns we've observed.
agree with this view, concede my ignorance re trading VIX but if we believe mkt is rigged logical to sell options which support that view
this is interesting....volatility as implied by
vix is janus faced in that it could be indicating
up or down....is there any way to filter for
direction?
I reckon it is the same people who are buying the market at every dip, they know it won´t go down, so might as well sell vol any way...
AIG was the last dumping ground. When you have govi bailouts, almost anything can happen!
Real volatility was much lower in March than in October and November--we didn't see the 5% moves like we did in the fall. Since the actual volatility is lower, the index options used to calculate the VIX are priced lower. My question is, why has real volatilty declined?
The question is who and why the VIX is acting like this and who would play such an unsafe game? IMHO this how I see it. Imagine that you are inside a video game. Imagine a maze and the owners of the game know where the end is. They have programmed trades so that you have the illusion that, by using charts and past history you too can find you way to the end and win the game.
For a period of time you make you way through and think “I have got this figured out.“ Then they throw in a curve ball and you think “wtf is going on? This make no rational sense.“ All of a sudden you find yourself in a dead end.
What is going on is that through collusion, the Fed, big bankers and insiders have rigged the game. They own all the keys to the exits. They will continue to confound and confuse traders into corners and once you are cornered, they take you down like a street gang rolling a wino. You will never see if coming. Blinded by your own rational and previous gains. You did everything right and still got rolled. This is the nature of the markets we now play in.
No level playing fields. No rationality, no reason. It is like playing poker online and your opponent can see all your cards. This is no longer gambling, it is pissing your money away. In the end you won’t know what hit you.
you may have a point about the outcome being bad, but I don't think it's anyone's intention to screw investors over. they're just rigging things, and the investors are not the first people they're thinking of. as a result, a few casualties of the retail variety don't matter much, as long as they have people to hire them when 'this is all over'. I don't see people conspiring AGAINST us, they're conspiring for them, with the awareness that it's bad for us. I think they honestly believe they are picking the 'lesser of evils.' I don't agree, but I do think that's what they're telling themselves. Kinda reminds me of George Bush.
Everything you just said is spot on man. I trade S&P and QQQQ futures for the past 9 years and have never had a down month until March. Now its 4 months in a row. Obviously it's not me, as 9 years speaks for itself. Im going to see if this dump can materialize, if not I'm throwing in the towel. No need playing a rigged game. I've been in these futures markets 95% of the day and can honestly say at certain points when the market should have rolled...(at any other point in history of capital market it would have) they have ripped back and fucked the shorts every single time. Someone is in ES and NQ futures manipulating them at key levels and overnight after big down days, and I am through with it. I'm going to give it another week or two and wash my hands with it. The sad part about it is that you have all these jackasses like Dennis Kneal and Kramer proclaiming were in a bull market and the recession is over and for everyone to jump back in the pool, only to get slaughtered like sheep. There may not be anyone left to invest after the 15+% decline that's coming.
Yeah, and Six Sigma events don't ever happen. Obviously it's not you though...
what options are you referring to specifically, what month, strike?
I don't really understand the article, and would love someone to explain. But I can explain the option stuff.
As per the drop from jan to march was controlled by goldmans prop trading desk the vix never rose too high. You could see the cycle pattern. when there are many people in the market and they sell at once the vix goes up because the drop can't be controlled by the program traders. this is a controlled drop, just like the rise was a controlled rise.
I note of interest the 14 day money flow on the S&P 500 for grins. when you chart this you will see when it peaked, went down and even when it bottomed later the market had actually gone up. this does not happen with out manipulation. now the money flow is going down and the market is going down. Hence, it is the quant funds that are doing it. I think you will see a controlled drop with low vix to where they want it to being people back in. But since there is total manipulation who knows.
expect the drops between the periods when pension funds would have to declare losses. I think the gov't want to keep the market up at these times
If one month vol is declining, there aren't enough buyers to match the sellers. Slow, vanilla money is usually long vol. What does that tell you? It tells you what you already know: that the vast majority of players in this market aren't the slow,vanilla money. That's all it means, and "they" don't know anything more than you do, but they know how to do what everyone else is doing. This is known as a 'crowded trade' -- and this is how *we* make money. Eventually crowds rush for the exits.
The question of how they're hedging is a good one. I usually hedge short vol trades by capping them off with a long call or put, or taking some position on a related index, or pairing.
Hedging short vol is exceedingly hard, unless you're willing to settle for miniscule returns.
Short calls, short puts, long nothing, strive for delta neutrality, maintain a margin cushion to allow trades on your own terms, adjust where necessary, and take profits off the table as earned.
I got torched in the Sep/Oct/Nov difficulties, because it's impossible to deal with those sorts of upward vol swings, but my strategy (absent violent VIX moves) has been very profitable so far this year, and I made back all that I lost last year, and more.
Oh, yeah - I'm also prepared to go flat & take losses ASAP if things look ready to go straight to hell.
After 6 tries, I finally got the math question right.
I love this blog!
Queenbee...your analogy is as good as it can get.
Queenbee, I agree with Anon. Your rant was excellent. I like your post today too:
queenbee-insidethehive.blogspot.com/
Great post FischerBlack! Seems the most plausible explanation to me.
ALL THIS STUFF REALLY IS IRRELEVANT....
Consider the following from Bloomberg.. The People’s Bank of China scrapped lending quotas in November and has kept interest rates at a four-year low, triggering an explosion in credit to support Premier Wen Jiabao’s 4 trillion yuan ($585 billion) stimulus package. Manufacturing in the world’s third-largest economy expanded for a fourth month in June. The official Purchasing Managers’ Index rose to a seasonally adjusted 53.2 from 53.1 in May, the Federation of Logistics and Purchasing said July 1. A reading above 50 indicates an expansion. This is the global economic model in a nutshell... Keep consumption on an upward path by whatever means and never let it falter. In one sense it is understandable...Wealth creation lifts people from poverty...they can own things...cars, homes, luxuries, disposable things, things beyond what is needed for basic survival...but... At what price and by what mechanism? A look at a chart of us money supply (or global) reveals a lot...starting around 1945 the global money supply began expanding in a big way. Slowly at first with a moderate steady incline. Come 1980 however, the line turned into a curve and began accelerating upwards. By 2007 the line had become parabolic, going almost completely vertical...straight up with the only interruption being the meltdown of last years credit markets. (just a blip on the chart by the way) Now, you should know by now thanks to my ramblings, that money is debt and all money comes into being via debt so therefore this parabolic rise in global money supply is in fact the direct result of a parabolic rise in debt creation The global stock markets rise, the apparent recovery in the Chinese economy, the green shoots etc are all the direct result of this expansion of the global money supply and the parabolic expansion of debt!! And here lies the rub. As explained before and as you clearly understand, debt comes with interest attached and for that interest to be serviced more money has to come into being to do so! Parabolic rises in money creation (supply/debt) require equal parabolic rises in interest owed which requires a further acceleration in money creation (debt) and an endless, ever quickening cycle of money creation/interest obligation/debt creation is born. How high is the sky? How fast and high can this cycle be sustained and what are the consequences? As individuals or corporations or local governments, the sky is only so high. You can't borrow infinitely because you have no ability to service the infinite debt. But central banks and treasuries have no constraints...they print the money!!! Theoretically they can issue limitless money (debt) and print infinite amounts to service it...but of course not without cost or consequence. What are the consequences? Why isn't this a free lunch? In China last month, an insane amount of new cars were bought by and insane number of Chinese who became instant debtors by doing so. They now are insanely indebted, consume and insane amount of natural resources, demand an insane amount of infrastructure to drive the cars around on, pump out an insane amount of pollution and like the insane are apt to do...show no signs of stopping. All those cars required oil to be pumped, mines to rip open the earth, plastics and other synthetic material to be created and are a constant parasite on the earth going forward. This is what is hoped for and strived for everywhere on earth. The United States authorities in their infinite insanity are hopeful to accomplish the same thing. Through infinite debt (money) creation, they hope to kick start auto consumption, home building, consumption by the insane population that make up 70% of GDP by consuming.
How high is the sky? Will the world be a better place when 2 billion Asians all have cars? Will America be "back" when we are building 2 million new homes a year above and on top of the fruited plains? Will life be of higher quality when the malls are packed from sea to shining sea? It is insanity. It is a snake eating its own tail. It is an unsustainable model both environmentally and economically. Infinite money supply creation (debt) has practical limits. The more you create the less value it all has and that is what fuels the hyper inflation camp and the devaluation of the currency crowd. They have a strong case. But further, it doesn't account for the end user...you, the insane consumer, who cannot be the borrower of last resort. No matter how much debt (money) is created, you can only borrow so much. Americans have reached peak debt, the Chinese have just started down the debt slavery path. What happens when they (the chinese consumer) reaches peak debt? Who is left to become the debt slave at the end of the money (debt) assembly line? Answer? No one. The game of musical chairs stops dead in its tracks. Not one dime more, can or will be borrowed, not one more thing on credit bought, not one more device or product made. The end. No more music, no more chairs. The machine stops But it can stop long before the last Chinaman took out the last auto loan. As fast as China goes down the self destructive path, they are still pups in the global consumer pack. We are still the big dog but we are old, broken, gimpy, gray and off our feed. We can and are bringing the global insane consuming machine to a halt all by ourselves and all that money creation (debt) is just sucked into a big black hole now nary able to buy a single iphone. I am trying to get you to see that the system itself is flawed. That the model by which the world has operated is of a faulty design. That it is, was and always will be unsustainable. It's very nature is self defeating and self destructive and the pursuit of its continuation is doing the same thing over and over expecting a different result...the definition of insanity. This model is mathematically impossible to sustain. It has far reaching consequences. It is going to fail and fail catastrophically because there is no back up plan for 6 billion people. All things that go parabolic break. Everything in nature that does so, fails. Populations of animals that go parabolic, crash. Things that go at parabolic speed, crash. It is the nature of exponential curves. They do not grow to the sky. The people who offer assurances and comfort neither know this, understand this or care about it. They either mislead or forge ahead blindly stupid themselves. This proof cannot be denied and the only unknown to me is the day and the hour when the last note is played not that it will be played.
I don't mean any offense to all the great thoughts presented here, I'm merely trying to point out, that in the grand scheme of things, all these sideshows, market related and otherwise, are just that...noise and distraction from the big picture. The big picture leads to only one place...system reset. All the stories and spasms and events along the way are interesting and food for thought but the end, is scripted already and how exactly we arrive there is really not that important. jmho
pudthepiper,
Well articulated, imo. kudos.
If I may ask, how are you preparing for winter? I'm pretty sure you understand the exact context in which I am using the word winter. I would very much like to have this conversation, as I am preparing for winter myself.
If you are interested but would rather the conversation be private, I am more than willing to provide my email address. If you are not interested, fair enough. I can't tell you the exact date that winter will be arriving, but it's definitely coming. As I believe you surmise, the only debatable points are the exact path taken to get there. The destination, however, cannot be changed.
I'm interested.
-be
This was just posted at Denningers site. Very long but looks interesting. http://www.oftwominds.com/survival-plus1.html
"In each of these cases--the con, the seduction, the counterfeit--the potential gains far outweigh the nominal cost of creating and presenting the simulacrum. This hugely imbalanced cost-benefit ratio explains the ubiquity and prevalence of cons, counterfeits and seductions in all cultures and eras.
The key defenses against simulacra are knowledge and experience. Thus the 30-year old woman with painful personal experience of being seduced will be far more difficult to con/seduce than an inexperienced, insecure 20-year old woman. What Wall Street fears is not regulation (which can be watered down with subsequent lobbying) but a dearth of new credulous marks willing to believe that Wall Street works to their benefit in a fair and open market.
But simulacra offer a much broader spectrum of deception beyond seductions, counterfeits and con games; the great power of the concept lies in its unification of a tremendous range of distortions, deflections, deceptions, illusions, masks, obfuscations and inauthenticities presented as authentic.
Within our analysis of the politics of experience, the fundamental mechanism simulacra provide is what I term full spectrum defense of the Status Quo. Such simulacra can be found in all time scales and settings, from marriages to nations. "
@ pudthepiper
Well said - a similar opinion is voiced by Tarek El Diwany in his book 'The Problem with Interest'.
Abstraction made from the religious undertones of the final chapters of his book, the first three chapters are spot on.
http://www.theproblemwithinterest.com/
I don't think ányone is offended, it's just that the people have been brainwashed with the upwards curve, that it's hard for them to look at a sustainable system, that does not have endless growth.
You will be considered a socialist or communist, but not a true US free capitalist.
Changes take generations, unfortunatly. We will all carry on trying to push the system, until it brakes down, and we will be glad to have running water, as a very worst consequence.
I've been curious as to what is going on with vol and the VIX these last couple of weeks and want to do some sensitivity analysis to see what is driving the current values. Maybe I'm daft, but no matter if you are in the camp of 'Q2 earnings will backfill the market runup' or the 'My only position is long-guns' - this non-linear index seems to be retreating very fast for plenty of fundamental uncertainty ahead. Maybe it's as simple as some slick math cats have turned on their market making systems (SPARCs of course!?) which can step in front of the old-timee bids/asks and can employ SPX option price bidding to move the index without any trades and pull in short term profits on VIX futures. Or maybe there are just a bunch of idiots who have no idea of the non-linear pandoras box they could be opening at the first hints of trouble but like corner boys they make a buck holding risk and can't comphrend exponential ratfuck comeuppances.
I have written some python code to calculate the index as outlined in the whitepaper (http://www.cboe.com/micro/vix/vixwhite.pdf) from option chain data and would like to observe which options have been providing the most (least?) contributions to the smoothed index as we roll between months. Given that the actual VIX calculation has some peculiar rules regarding which strikes are included, combined with the 1/(StrikePx^2) weighting giving much bias to out of the money puts vs calls. I am interested in looking into whether the VIX may simply be declining because the bids are low even if sellers are pricing in relatively conservative ask premiums. Or maybe as alluded above, the quest for profits are narrowing the SPX's horribly wide bid/ask spreads as traders feel they are now better equipped to quickly pull out at first sign of disaster. There must be some kind of structural shift in which strikes / rights are dominating contribution in the near and next term vol structure.
If anyone has bid/ask/trade data for SPX option chains over the last few months in HDF5, .csv, or some other format easily imported into numpy, I have some code which we could use to decompose the VIX calculation's response to intraday movement. Ideal data is SPX option chains with minute or less bid/ask/trade ticks as well as the same for the VIX option chains. I have ES data down to second resolution and might have some lower quality SPX index ticks around here somewhere. If anyone's interested we could quickly throw together some reports and maybe convince me why I shouldnt be loading up on vol here, esp. submitting $0.05 bids for out-of-money puts which have lower $0.05 bids I could immediately sell into while increasing the number of strikes counted in the VIX calculation. An unusual indicator since the input data is not trade-volume weighted.
And if there is something obvious I have overlooked, please present so we can all better understand the uses / trickiness of the VIX as hedge or indicator.
You are wasting your time. With all due respect you are simply trying to game the casino crooks at their own game and ignoring the fire in the back room. This is what so many "players" do. In a sense it is horribly hypocritical to on the one hand curse the casino and all its machinations while trying to come up with your own. It's my biggest issue with "investors" ( I laugh at the word) ...they exist under a veil of being productive capitalists when in fact they are all traders and pick pockets trying furiously to pick the pockets of other "investors" before theirs are picked. What a colossal amount of fuss and fury is spent trying to divine the next roll of the dice. As I wrote above, it all is going to end in ashes sooner rather than later, I don't understand why so much time is spent getting in that last hand at the black jack table while the flames leap into the main casino.
/sarcasm
But without the dilligent study of derivatives market microstructure how else will we efficiently allocate capital to be put to work solving humanities problems!? Oh wait, those shares of shares of APPL we keep punting back and forth don't issue a dividend? Oh we wanted *jobs* stimulus not Jobs stimulus. Well I'm sure with a 25 P/E and a 125B market cap they are a high growth company which will sell 2 iPhones to everyone in China and India and then begin to pay out earnings before making a misstep and losing exponentially hyped growth 'equity'. Musical chairs - musical shares.
Only weak companies issues dividends right? Kind of like hitting on little princesses - irrational confidence beats rational humility every time.
Bonus points: If VIX options were a game at a casino how would you explain the game scoring mechanism to your average retail investe er bachelor party to convince them to step right up and give it a spin?
At least us speculators add ACTUAL liquidity!
And don't blame us, most of us USED to be investors... At least I know I was.
I know this is waaay too basic an explanation, but would not the VIX (as a measure of volatility) be driven down simply if you controlled the daily trading range (i.e., bought all the dips, and bid enough on light volume with yourself to maintain or even slightly lift the S&P)? If the VIX measures the wideness of daily trading ranges, if those ranges are not wide, isn't that the end of a high VIX?
Ding, ding, ding, I think we have a winner!!!
I've got a few stocks I watch the market depth on all day long, every day, and your answer clearly supports the trading activity I see on those stocks. If they don't want something to fall, they throw a 20k buy order in front of it. And vice versa.
The VIX doesn't 'measure daily trading ranges' or volatility. It's measures implied volatility specific to S&P Index options. There's a lot of misconceptions about the index and what it says, but all anyone needs to know are three things:
1. It moves coincident to market moves. (i.e., it doesn't predict anything nor aggregate history);
2. It systematically *under*estimates the potential for extreme volatility, and when it corrects, it corrects violently;
3. It tells you nothing about any particular equity option.
In my opinion, it is best used just the way Tyler is using it: a quick indication of which particular side of the volatility trade is attracting the most money. Its uses (by itself) are few beyond that. It has more uses when put in relation to other indicators.
Tyler,
Don't look to much into it. There is one prevaling thought in the market right now, which is that the S&P 500 made bottom or is close to bottoming and that we are going to be range bound here for a while. The current implied volatility says that there is a 66% (1 sdev) chance that we go to the 30% lower or higher in a year. I dont think that is a ridiculous to assume. As a matter of fact, I would be more than happy to sell some straddles here and use the premium to get long vega in single names that could possibly have more action.
I think it is irrelevant that we sit at the same levels as Dec 08 and the VIX is 60% lower. You have to look at where we came from to draw a true comparison. Why was the VIX so high back then, cause the market had been tanking for several months and the intraday swings were at times 5% and the volumes much higher, that IS volatility!
Divergences in high/low VIX to market high/low are sometimes a precursour of trend reversals. I would watch this carefully. The way I see it is two things will eventually turn this market and that is a return to reality of the situation before us and another major shock, which could be any number of things. I think we are in the begining stagies of that reality check.
I know this doesn't answer the question at hand. It's just a simple observation on my part.
I think it's a question of perspective. The chart examines the latest six month history, coming off a period of very high vol following the Lehman bankruptcy. If you look at the first 3 years history of the traded VIX (early 2004 to early 2007), it traded in a range of about 10% to 20%. One could argue that the process this year is just a case of returning to normality (if it will ever exist again). Historically, I think you'll find that the sellers of options (and the sellers of vol) more often than not end up on the winning side of the trade.
There is a difference between volatility from a mean and volatility around a mean.
Since 11/20 the market has been "mean reverting".
During the period 9/10-11/20 it was not.
Derivatives need to be standardized, regulated, and cleared on an exchange. We can easily have the tail wagging the dog scenarios leaving exchange market participants' heads spinning. With the govi prop jobs, the door is wide open for one of the "too big to fails" becoming the bag holder in another scheme to siphon more taxpayer money.
Scratches head and says: is this about that guy on CNBC who sells options, whose always saying "you better be buying protection in this market!"
Now onto my dumb comment: I heard someone on CNBC say that funds couldn't invest there money unless the VIX was below number XXX. Anything to that? Or have I been shilled again?
well said pudthepiper, except I think all that Chinese lending is being "invested" rather than consumed. The landing will be harder if there is ultimately nothing to generate a return.
There is a marginal difference between consumption and wasteful "investments".
The VIX is used only to frighten or soothe the herd. It's an everyday word now. Even Dennis Kneale learned what it means, on the air no less.
After the March crash, all the shills on CNBC made a point of emphasizing numerous times each day how much the VIX has dropped, which is the equivalent of giving the sheeple a dose of Ritalin before they make their way into the pens just outside the slaughterhouse.
Mr. Wolf, in a suit of gold, is in the house, and wool and lamb chops are on the menu for this Fall.
Yeah, they just like to use it so they can sound fancy.
DK: "hi, I am DK and I got some designer frames, so I must be a genius! Also, I learned a new acronym, today called the VIX. See, I am a eurudite, new york investor that's in the know. go buy some Tide with bleach...!"
@ by Anonymous
on Fri, 07/03/2009 - 16:49 #4417
Quote: "I looked up VIX on wikipedia. Still totally confused. Someone translate please. I really want to understand."
Is that you Dennis Kneale?
DK doesn't post here anymore since they added the math question CAPTCHA.
Man, I wish there was a way to give a thumbs up (or thumbs down) on some of these comments. Mostly thumbs up.
@dnarby first of all thank you for visiting my blog. There are sites like Mish's that offer just that, but still I want to hear your comments. It is much more gratifying. Thanks again for visiting "inside the hive." and thank you Shaza as well. I still think Tyler's site is the best on the web right now.
The way I hear it
VIX is the ticker symbol for the Chicago Board Options Exchange Volatility Index, a popular measure of the implied volatility of S&P 500 index options. It is a weighted blend of prices for a range of options on the S&P 500 index.
http://en.wikipedia.org/wiki/VIX
CBOE would like to thank Sandy Rattray and Devesh Shah of Goldman, Sachs & Co. for their significant contributions to the development of the New VIX calculation.
In 1993, the Chicago Board Options Exchange (CBOE) introduced the CBOE Volatility Index, VIX, which was originally designed to measure the market's expectation of 30-day volatility implied by at-the-money S&P 100 Index (OEX) option prices. VIX soon became the premier benchmark for U.S. stock market volatility. It is regularly featured in the Wall Street Journal, Barron's and other leading financial publications, as well as business news shows on CNBC, Bloomberg TV and CNN/Money, where VIX is often referred to as the "fear index."
Ten years later in 2003, CBOE together with Goldman Sachs, updated the VIX to reflect a new way to measure expected volatility, one that continues to be widely used by financial theorists, risk managers and volatility traders alike. The new VIX is based on the S&P 500 Index (SPX), the core index for U.S. equities, and estimates expected volatility by averaging the weighted prices of SPX puts and calls over a wide range of strike prices. By supplying a script for replicating volatility exposure with a portfolio of SPX options, this new methodology transformed VIX from an abstract concept into a practical standard for trading and hedging volatility.
http://www.cboe.com/micro/vix/vixwhite.pdf
Tyler, to your question: why, with the open interest increasing, isn't the VIX showing upward momentum?
1. Since the VIX is an indicator of the *perception* of future "movement" in the S&P and is therefore not (as many believe) a bullish indicator when falling and a bearish indicator when gaining, we look at VIX to better understand what option prices are saying about the future standard deviation of the index. Volatility, remember, is just another way of describing the distance (either up or down) from the mean. If option open interest is increasing, yet all clustering in a small range, the VIX can still be decreasing.
2. Volatility isn't bearish or bullish. However as the vix falls, people like that CNBC anchor say "jump in the water's fine." And two weeks later you're getting your Kia repossessed. Since we are measuring perception, rather than being a confirmation to go long, you could look at the vix falling, as actually an indicator that the market is more opaque than usual, and that it's harder to take ambitious positions for any number of reasons i.e. government, etc. So this is very important, it is not an indicator of RISK.
To your point about December levels. If anything the perceived risk is down through the extreme acts of Quant easing and general reassurances in the media, but actual risk could very well be up. If I am a "fearful" trader, I buy things that are less speculative like atm options, safe and popular price averages, etc. This can push the vix down.
In that line of thinking the VIX is completely misunderstood.
My view of the market, through some fairly rigorous investigation, is best looked at through an analogy. There's an economic war coming, and all of these participants are taking off their armor and getting pizza.
Further, the biggest arbitrage opportunity right now (I think), is this blatant mis-pricing and abandonment of RISK.
It's awfully ironic, now, that after all of this government action the net result is that the perception of risk in the markets has basically been eliminated by the QE. Not only is the risk bigger than Dec 08, but equity participants believe Government permanently has the Bear at bay--one can just look at the prices for short ETFs for evidence.
Sure volatility is down, but it does not reflect a greater upward beta (there is no such thing but that's how people act) in the S&P. It just means the information that is available is useless i.e. shit.
3. A falling VIX at the end of the day, at least to me, just means that the gap between perception and reality is getting bigger, and therein lies the opportunity.
So, given your thesis, your best strategy is to purchase out-of-the-money puts on the S&P 500. Those puts will be priced at an implied volatility consistent with VIX (i.e., they will be ridiculously cheap). When your anticipated black swan event arrives, you will receive a huge payoff.
Correct, the hedge against a black swan is cheap.
Buying a cheap hedge makes perfect sense. The question is who sells option contracts that cheap and why???
Yeah, but given the extent of the mispricing, I don't think you need a black swan event, just a down leg with some meat. Shit look at FAZ, we could talk for hours just about what that $5 price is saying. So, to me, it's like that's what a short position in these banks is worth even though they are not really any healthier and data is getting worse? Really? Speaking strictly as a hedging instrument, that's cheap as hell and a lot of bang for the buck, right? Or given this Twilight Zone atmosphere, maybe a down leg with meat is a blackswan going forward. My main idea beyond trading strategy, though, is that whoever is participating, they expect tighter ranges, on the up and down--now that could be, but something is going to have to give even in light of these extreme Govt actions.
agree-
good articles... http://kl.am/tsc
http://bacn.me/7gy
Well you can sell out of the money puts for any number of reasons. If you are bullish on a stock, but waiting for a dip, you can write puts--it's like buying a call while getting a premium to wait. Or if you're bullish and want to lever up. So, the thing to remember is that if I am long puts on ABC, I am bearish, but if I write puts on ABC I am bullish. The open interest on a wider array of prices over a period of (t) dispersed with great variance will push vix up, but when vix goes down options traders don't take the options off the shelves, so to speak, but that's how some treat it. Like "oh, I guess people don't use Insurance anymore!"
A little off topic, but does anyone have any book recommendations that would put me in a better position to fully appreciate the discussion here? Is there any book I can read to understand ZeroHedge? I guess I need an overview of derivatives to begin with.
Of course, Fight Club.
Sorry, had to say it. Um, it is a good book though.
Well, I wrote 4581, 4584, 4585--wasn't logged in.
But I think the best thing to do is keep reading and look things up.
If you are not familiar with derivatives, I know the CBOE has a lot of educational stuff on their site.
p.s. T.D.: thanks for the rich text, man. This is very cool.
I've been looking into the possibility that the reason the VIX isn't preforming as expected is a move from using options to hedge short term positions to using leveraged ETFs.
I still don't have all the evidence I need to make a firm case. What I have seen so far leads me to believe that the ramp in leveraged etf volume this year (which is quite radical, even in the etf's that have been around for a while) is directly connected to the lack of VIX movement.
I have an indicator that's built off of the volume of the 12 highest volume 2x and 3x leveraged bull and bear ETF's (24 total.) It shows the percentage of volume bias to the bear or bull side.
If I'm correct, the peak in bullish volume bias right after the march lows was when hedging downside bets using LevETFs started tapering off along with the rising markets. The decline in the total volume of the 24 pretty much matches the decline in major indices.
What really gets my attention here is that, during one of, if not the the most radical rally in market history, bull bets have been declining and bear increasing. That's divergent from the wider market itself and leads me to believe that a lot of the volume that's come into leveraged ETFs is going toward hedging of other positions.
I'm quite sure this is going to spike green again on the next major leg down in the markets, with little reaction in the VIX.
VIX is dead. LevETFs have killed it. Shorter term charts show this as well. I track it hourly during trading days and it's becoming more and more obvious to me that the correlation between it and hedging activity is growing.
Asimov,
Correct me if I am wrong, but is your premise that:
Demand for the options is increasing due to demand from levered ETFs?
And that additional demand has diminished the spread on options prices? (causing the VIX to go lower)
If it is, I would whole-heartedly jump on that theory. That
would also explain the increase in option volume.
Tyler, give Asimov an "atta boy!"
P. Prophet
Sorry it's taken me so long to reply, I thought I made the comment on blogtalk and was wondering why it disappeared. heh.
Anyway, what you say is interesting, but I was actually talking about the exact opposite. That the short term hedging (and possibly some intermediate term) that has been done historically with options is moving to the leveraged ETFs instead.
The real problem is distingushing what might be hedging activity from normal activity.
I've been watching the bias in moneyflow (volume*price) between 12 pairs of various high volume leveraged ETFs for a while now and there is something odd going on.
Some pairs are heavily (and I mean nutso heavy) biased to the bear side, while other, similar pairs stay biased to the bull side.
TWM/UWM (r2k) consistantly stays biased toward the bull side, while DXD/DDM (dj30) and SDS/SSO (s&p500) stay biased toward the bearish side.
SKF/UYG (dj financials) is usually ones with the most bearish bias, but FAZ/FAS (r1k financials) stays pretty consistantly balanced.
------
Back to what you said, that makes some sense too, the volume in the leveraged ETFs has gone so high, so fast, it's likely to have more effects than we can imagine. It could easily be that hedging hasn't moved into the ETFs, but the ETFs themself are causing the VIX behavior.
Suggestions on how to figure out what's actually moving the ETF's are MORE than welcome. I'm starting to run into a wall. My next (and last, atm) step is to start watching a comparison between non-leveraged and leveraged based on the same indices. Maybe there's some data that can be dug out of that.
-------------
One point of data that is not obvious from watching charts of the various pairs: There are times that the moneyflow bias within a pair goes INSANELY (300-1000%)bearish and then quickly corrects - I think this is some type of arb play, but not sure - This never, or almost never, happens to the bull side. Bear almost always leads the play.
That been one of the most puzzling things about this for me. Massive bearish bets? Massive hedges being put on? I may not be able to get any sort of handle on this till we actually start moving in a sustained bearish direction to see if the behavior of the pairs reverses.
Bah, didn't even notice I wasn't logged in -- that was me though.
Well, all of the forward prices via the CBOE for aug, sept and oct are pricing the VIX above 30. Above 30 is still considered pretty volatile, historically.
Nobody remembering GS VOLA trade in late 2007 ? Cashed in $1.5 billion at that time. Same happening again. And with financials expecting Q2 mega earnings, do you really "believe" we are heading for ES 800 ? LOL ! Shorts will be squeezed once again and again and again. You just deserve to be intellectually wrong ! Have a nice day.
Just a question, are financials expecting to report mega earnings? I haven't heard that.
You kidding me?
The nominal price level of the S&P has NO relevance to the VIX. VIX is driven by the market price of the volatility of SPX options. When there is more fear and uncertainty (such as Dec 08) there is higher demand for SPX options for hedging and spec.
Now there is less uncertainty and fear. There is not an elite group that is manipulating the VIX.
anon,
What do you propose drives the delta and gamma of SPX options, if the S&P has no relevance to the VIX?
]
Here's a brief theory to consider. My background: I'm a new investor, just got into the market in late january, started out buying bank stocks in late February and the life insurers after February downgrade/selloffs. I was a market observer from the end of 2008 onward, waiting for stocks to finally come into my 26 year old price range, and they finally did early this year. I'm an employee at the home office of one of the world's largest life insurers, HQ here in NJ.
From late Feb to early April, you certainly have to admit there was a case to be long stocks. Speculators (like me I guess haha) scooping up cheap abandoned shares, fund managers looking to beat their ruthless competition with riskier moves than usual, typical program trading at the big trading desks, yada yada yada.
Now, while many attributed the entire run up in early march to short covering, as I just stated, I believe some genuine longs actually started this, and probably were responsible for the move up to 750 or 800...ie when we started hitting major resistance levels. Now, this is my guess as to when short covering started to really take over the activity, and genuine longs started to take a step back. If you're flat to mostly short in your portfolio into early march, you're most likely move would be increase short positions at the first resistance areas, and then heavy up if we somehow surpassed those, right?
So lets think about this: we get through the early 800s, and even break 900 in early may up to 930 with basically no pullbacks or sustained consolidation periods. I dont call that a "bull market that wont let anyone in." I call that shorts buying any/every dip to cover their hides. When the market rose up in March, we probably had the largest amount of short positions EVER open at one time in the market. Institutions, trading desks, pros, hedge funds, even small-timers can now jump into the short game. So I'll make the case that 800-930 was a short covering rally, of course aided by day traders exploiting this trend to increase their profit margins.
Now, when i began shorting the market and gettin out of most of my longs was the first two weeks of May, after the ridiculous stress test rally and the deluge of bank secondaries flooded the market. Thats when I started to become a contrarian and even a conspiracy theorist. Stocks like WFC, BAC, JPM, basically unwanted 2 months before, now are still reaching new highs after dilluting shares by the billions? LOL, might be new to the game, but somethin smelled when this happened. When I became 100% sold on the conspiracy theory (my version is that the plunge prot team and the big banks were basically propping markets up ONLY until financial companies could raise capital, at which point they'd leave investors holding the bag and short the market all the way down to double their profits) was Friday 5/29. That absurd, ill-timed, OBVIOUS stunt to push the SPX to its 200 DMA in a pathetic plight to lure sideline money in was just so blatant and disgusting. I was already short at that time, and I'm sure I'm not the only one who can say that day cost me big big $$$.
But, while that move was just outlandish, let me run my theory by everyone. What if most of the futures activity is not solely conspiracy theory action? I mean, we'll all admit that this rally wouldnt have gotten off the groudn w/o short covering, so what if people are buying the futures & options to hedge short bets? Think about it--its a hedge against long or short term short sale positions, but the problem is that the slightest moves upward turn into spiraling rallies because the short interest is so high, and obviously getting HIGHER as markets go up!! From that angle, alot of the rally makes sense--no real interest in the market, but shorts scared to death, so scared that they are/were inadvertantly stopping each other out of the market and driving us higher.
All the market needs/needed was a sustained 10% drop to erode the shorts fears, and stop some of the hedging and covering. But we never got that. When you have 200 point DOW days on average every 3 days, sometimes closer together, the short covering and fear among shorts is going to explode exponentially. This is what we saw.
So, how can this end? Hate to say it, but think we need enough shorts converted to longs. We need longs who think rationally, SMART longs, not panicked short sellers buying every dip. Smart longs aren't buying, they haven't bought since 800 or 850 max. When that happens, and as you watch teh SPX teeter over right now, I belive it is happening, the short covering will stop producing rallies. Thursday was a sign of this. We finally got a decent selloff that didnt end with the SPX and DOW getting back half the day in the last 10 minutes. Why? I think enough shorts have been shaken out that we dont have that marketwide fear of the next days' rally or the need to cover yesterdays rally at reduced prices.
I think the bull has been an imaginary one. For the record, I use very little fundamental analysis, almost 100% charts for me. Volume has declined since march, supporting my theory that the only real longs in the market exited in early april or sooner. (or at least stopped buying). Most of the volume we have seen since then has come in the immediate (1-2 day wake) of major rallies. So this sell-defeating vicious circle has continued until enough shorts were shook out to drop volume dangerously low.
Tomorrow will be key. This time, shorts dont have a 300 point rally from last week to cover. Some will undoubtedly cover in fear of "the imaginary bull' that has come stampeeding back after every day like Thursday, so we'll see some buying tomorrow. But if my theory is correct, and the rallies have subsided enough, the remaining shorts are veteran enough or institutions who wont panick and cover for any reason tomorrow.
Result? We should drop to levels where real longs get back in. IMO, given somewhat better fundamentals now than late February, that means levels from late March--doubt any lower than 750/800 on SPX.
okay, you can't say, "here's a brief theory" and then write the longest post to ever show up on a message board and stay credible. just saying.
You need a graph of realized volatility to compare against VIX, as the market simply isn't moving wildly enough on a daily basis anymore. BTW, we rarely saw 30% in VIX in the old days. Index options are priced about where they should be and if anything they are still a little rich. So, in answer to your query, the sellers are simply the market-makers and other vol arb folks. If you think that it's so cheap, then back up the truck Dr. D.
Firms at risk of bankruptcy have a greater incentive to take on risk as this maximizes the possibility that there will be some pay out to equity owners (ie management). There are a number of firms facing this possibility right now and selling cheap insurance in the CDS and VIX market is one way of amping up risk. It all comes back to supply and demand and there are a lot of firms willing to supply this insurance for cash, question will be whether they are still around if spreads do widen and the VIX does jump to pay the buyer of said contract.
As a market maker in Europe on Eurex we have been stuffed with vol since march. All the major banks (Deutsche bank,UBS, Credit Suisse, Merril) have been ramming it down our throats (mainly up to three month expirations) and even though i agree with Tyler... things still suck... the banks have been raking it in which is strange because back in October places like Deutsche Bank (a major option and derivative player in the world) incurred huge trading losses on being short (mainly index) vol... i guess they havent learned... they are back to their old tricks which is just a ticking time bomb if you ask me... but I guess P&L's don't lie (yet!:))