The Week in (re)Preview


VXX and SPX 10-day, Thirty-minute Charts

Last week’s action in the main indexes was strange insofar as volatility (VXX) did not sell off to the same degree that the S and P 500 (SPX) rallied. The slow reaction of the VXX probably caused many option sellers some trouble.  I have a two-part hypothesis:

1.  The short volatility trade has become crowded. As such it becomes a good target for smart money contrarian trading. Over the past year, any writers of puts in VXX at the market lows have certainly needed to scramble to cover the losses they were sure to incur; for the VXX and other VIX-futures products are subject to continuous depreciation due to the necessity of rolling futures forward in the management of the ETFs.

In any case, from the standpoint of a simple-minded trader, the open interest in VXX puts at recent market lows has been huge, and it makes me wonder.

2. Have big players gotten wise and bought calls as the stock they purchased at recent lows surge upwards? To buy calls at market lows is not a good strategy because the price of those options is inflated– not as much as puts; but outright stock or futures purchases at market lows has worked like a charm since I started in 2010. To gradually replace stock with calls and some puts as the market works towards highs seems to be a sound strategy.

Widespread actions such as this could keep volatility higher.


In any case, last week we saw all time highs establish in the S and P 500, but the volatility products didn’t confirm it.

For this reason, I set up for the upcoming weeks long Delta and long Vega.


Weekly options expiration graph of a RUT double calendar spread.

Since all my Russell 2000 (RUT) trades worked last week, I have a clean and favorable expiration calendar spread set up for next week.

My AAPL and SPX positions contain unfinished business from last week; so they are sub-optimum but manageable.


An Apple (AAPL) weekly options expiration graph.

The AAPL position is both Delta and Vega neutral. This is also a kind of response to volatility neutrality. It is built to only acquire time premium decay.

I think AAPL will rise in price; for it remains a cheap stock with a P/E of 13.743; it also closed a gap on Wednesday. It must break 530 and then clear its 50-day moving average (which should not be problematic) at 537. AAPL volatility (really the demand for options) increases about two months prior to earnings. We’re at a point now when AAPL options start to become more expensive. Calendar trades will be my choice for acquiring up-side Delta from now until earnings in two months.


A SPX (S and P 500) weekly options spread)

The SPX spread above is the only Delta and Vega short major trade that I hold currently. Underneath the 40-wide butterfly spread, centered at 1850, three long put spreads keep the t+0 line far below break even.


Weekly SPX expiration graph without central Butterfly spread

The graph does not include profits taken last week on short and long options in the index. But it does show solid support for an up move. If the market reverses, the SPX position will be the most difficult to manage.

If I add a weekly iron condor spread as usual, the expiration graph will perhaps appear thus:with IC

This graph looks much more inviting. But iron condors have been challenging, especially when one wants to fly them out of the week worthless and escape the commissions that we late-to-the-party options traders pay. (insert sad face).

In any case, there will be no iron condor if the price is too low. Two or three calendar spreads at 1870 would neutralize the Delta and Vega risk immediately:


Possible expiration graph of a hybrid options spread.

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