The VIX is one of our favorite instruments to trade. The CBOE Volatility Index (VIX) is a key measure of market expectations of near-term volatility conveyed by S&P 500 stock index option prices. The gains from this Index can be astonishing and the frequency from which these opportunities arise in this index are fantastic – if you know how to play it. We employ a simple strategy when it comes to the VIX. When we get bearish the S&P500, and it gets back to levels we like being short, we build a core long position on the VIX as well.
See the below chart, we use a Standard Deviation Regression Channel to map the overall top and bottom of the range for the VIX. When the VIX trades to the lower bound of our risk range we begin to build a core position using call options. This lately has been around the 13 area and below. The VIX has traded from 13 to near 15 twice within the last few weeks and traded as high as 17 last Friday where we booked our most recent gains. This Index offers near-term and intermediate-term trading opportunities that we take advantage of.
We then will trade around this core long position buying and selling calls around the smaller timeframes. If and when the S&P500 does have a decent sell off (like in Jan/Feb), we come out of our core long position in a scale and then reverse getting short the leveraged ETFs that exist that track the underlying VIX. These ETFs include UVXY, VXX, and TVIX. The reason we like shorting these ETFs via put options instead of buying VIX put options, is because of the natural decay and the cost of carry and roll issues built into these ETFs.
We can see from the below charts of these ETFs just how effective it is to be short these instead of the actual VIX index. UVXY last year from the bottom of the S&P500 September sell-off, UVXY fell from $91 to $25 in 2 months. From the February lows in the S&P, UVXY fell again from $60 to now $14.
The same price action exists with VXX and TVIX. VXX fell most recently from $30 to $15, and TVIX which is 2x leveraged lost 75% of its value falling from $12 to $3. These charts illustrate our point very clearly as to why we like being short the ETFs when the VIX is overbought.
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