We all love our holiday breaks, but they do come with one downside in the options world. They mess with our numbers. Long story short: the VIX sees somewhat artificial weakness ahead of the slow markets that surround holidays, and generally return to normalcy afterward. Right now, that means VIX will not tell us much until January 3.
But fortunately, VIX is far from the only gauge of volatility expectations these days. We have ETNs and VIX futures now. A VIX future predicts where we will see VIX on the date the future expires, and does not price in exactly how we get from here to there. Ergo, no holiday effect.
So what do they tell us now? Here’s a snapshot of the futures board near the open today:
As you can see, it’s quite a different picture. The January futures expire four weeks from yesterday, and trade with a rather large $3.90 premium. In other words, even though we see a VIX of 15.51 now, the market anticipates VIX to rally back to 19.40.
Go further in time and the market expects a VIX surge. So while the VIX itself suggests complacency in the very near term, that’s far from true further out. But the futures really haven’t moved much in the past few weeks; rather it’s simply the VIX tanking. Which strongly suggests to me it’s simply option traders pricing in a holiday lull, not a wave of complacency.
Its also noteworthy that this is very normal behavior. Bill Luby of VIX and More points out that we have seen the yearly low in VIX during the week going into Christmas in five of the last eight years.
If you’re looking for a strategy to play this, well … there’s not all that much. Yes we know VIX will lift over the next 10 days or so. But so does the market. You can’t trade the actual VIX, only the futures and the ETNs. And as we just showed, the market has already priced in the lift.
What you can do is buy actual S&P 500 (SPX) or SPDR S&P 500 ETF (NYSE: SPY) options at depressed volatility. The catch is that actual options have actual time decay. They’re priced now as if you will see pathetic realized volatility between now and after the New Year. So if you expect some action, you can get a very inexpensive play if you go net long index options.
And thanks to Weeklys and quarterly options, we can see exactly how the options market values the next week. And it’s not pretty. SPY options expiring December 31 carry a volatility of 10.5, while the PowerShares QQQ Trust (NASDAQ: QQQQ) trades at a 13. There’s your cheap shot if you have interest.
Follow Adam Warner on Twitter @agwarner.
