Options Trading And The VIX

If you are an option trader, I am sure you’ve had the VIX (^VIX) on your radar since it initially started climbing past 26. Back then that level was concerning, now I wish it were anywhere near that level.

This high volatility environment has option prices overly inflated, which in combination with the widening of bid ask spreads over the last several weeks has made it difficult to trade options. However, I am seeing some positive changes in the elements that lead me to believe that trading options will start to get easier shortly.

First, take a look at the VIX…

Throughout this huge swing higher, the VIX has remained above its 10 day moving average since the beginning of September; or at least closed above this indicator over that duration. Lately I have been using the 10 day on the VIX to determine any short term changes in the trend. Looking at the chart, you’ll see that the 10 day acted as support dating back to the beginning of September, and prices have not closed below this indicator since. However, yesterday was the day that prices finally closed below this indicator.

You’ll also notice that recent price action resembles that of a double top. Not just the pattern, but a confirmation as well (if you use closing prices). This should mark a short term top in the VIX, and a possible 15 point decline, taking the VIX back down to the 40’s.

Not only that, but I have been seeing bid/ask spreads start to narrow. This is specific to more liquid options products, such as ETFs or very liquid stocks, but this is the most promising sign I have seen yet.

I will stick to my original claim that by the time earnings season is over, option trades will start to return to a relatively normal level. In fact, if you are a seller, over the next few days I would look to start selling some premium here ahead of a potential contraction in the VIX. Not to mention, but after earnings season, individual implied volatility is relatively cheap.

Use this in correlation with a positive move in the Dow (^DJI). If the Dow prints 9300, sell premium quickly.

Posted in Categories: Contributor, External Research, Options, Stocks, USA.

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