« October 2013 »

IVolatility Trading Digest™

Volume 13, Issue 39
No Jobs Report

No Jobs Report - IVolatility Trading Digest

Trade selection using volatility as the primary criteria. Different trades for different volatility opportunities.
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Schaeffer'sAttributing Friday's modest S&P 500 Index advance to the missing jobs data for September we think would be a mistake. The more likely reason is short covering before the weekend since who would want to be short just in case a deal was make to resolve the widely hyped government shutdown and the looming debt ceiling concerns however unlikely that seems based upon the seemingly intractable public statements by both political parties.

In this issue, we take look at our indicators for some market clues from our unique options focused perspective. Then we offer a hedging suggestion using CBOE Volatility Index® (VIX) options followed by a very interesting earnings report Calendar Spread idea for Apple Inc. (AAPL) from Dan Sheridan.


Review Notes Clip ArtS&P 500 Index (SPX) 1690.50. In our last market review in Digest Issue 37 "Caught Short", we said it was too soon to make a judgment after reaching the new high at 1729.86 on September 19 since we needed to see if support at the August 2 high of 1709.67 would hold. Although volume was moderate all week, except for Thursday's decline, we now see there was no support at all at 1709.67. However, there was some support at the August 26 high of 1669.51 that seems to have held last Thursdays low to 1670.36 on increased volume. Assuming the public political rancor continues this week we can expect to soon test of the operative upward sloping trendline now at 1661.

CBOE Volatility Index® (VIX) 16.74. The 3.62-point increase in the VIX since our last review two weeks ago is another bearish indicator.

The table below shows the VIX cash compared to the next two futures contracts as well as our calculation of Larry McMillan's day-weighted average between the first and second months.


VIX Closing Cash


The day weighting applies 35% to October and 65% to November for an average premium of 1.14% shown above. Our alternative volume-weighted average between October and November, regularly found in the Options Data Analysis section on our homepage, is slightly lower at .87%. Both premium measures have declined substantially reflecting increasing futures prices relative the cash VIX, another bearish indicator. Here are the daily readings for the volume weighted VIX futures premiums for last week



Assuming a normal volume weighted VIX premium during uptrends is 10-15% the low current readings reflect higher futures prices due to increased hedging.

VIX Options

With a current 30-day Historical Volatility of 81.19 and 62.21 using Parkinson's range method, the table below shows the Implied Volatility (IV) of the at-the-money VIX calls and puts using the futures prices based upon Friday's closing option mid prices along with their respective month's futures prices, since the options are priced from the tradable futures.



Compared to last week the implied volatility of the October calls increased from 67.49 to 107.28 while the total volume increased from 637,314 to 811,981 contracts with increasing open interest, one more bearish indicator.

All of the Implied Volatilities along with the Historical Volatilities and Greeks for the VIX options based upon the futures prices are on our Advanced Options page, found by clicking on the " market close" link shown near the top of the page.

US Dollar Index (DX) 80.12. The declining dollar along with S&P 500 Index were the more noticeable movers last week with the dollar closing below 80 both Wednesday and Thursday while rebounding somewhat Friday on what we are calling short covering. Since dollar weakness normally means crude oil strength, we see crude oil turned higher Wednesday after trending lower since making a high of 109.70, basis December futures, on August 28. While we think there is a reasonable chance the dollar will hold around the 80 level expect any further weakness should be reflected in higher crude oil prices making equities tied to crude oil good hedging candidates especially the smaller growth exploration & production companies.

10-Year Treasury Notes (TNX) now yield 2.65% after reaching as high as 2.98% before the August employment report on September 6. Our active upward sloping trendline begins at the low of 1.62% made on May 3, touching the August 12 low at 2.60%. For now, the trend is lower, but there seems to be good support at 2.65% or resistance around 102 using the iShares Barclays 7-10 Year Treasury (IEF), which should continue being positive for equities.

iShares Dow Jones Transportation Average Index (IYT) 118.16. Not surprisingly the support we were looking for at 119.45 Digest Issue 37 "Caught Short" did not hold as it followed the S&P 500 Index lower after making a new high at 121.00 on September 20 although it remains well above the upward sloping trendline at 114 reflecting an improving economy. In the event of a close below the trendline, we suggest increasing hedges.

NYSE McClellan Summation Index 281.54. Since our last update in Digest Issue 37 "Caught Short", our market breadth indicator advanced 68.79 points, but took a turn for the worst last Thursday declining 26.07 ending the week 20.67 lower. Since this indicator is one of the best for short-term timing any change in direction like the one that occurred Thursday, adds to the other bearish indicators mentioned above.

CBOE S&P 500 Skew Index (SKEW) 123.98. SKEW measures the purchase of out-of-the-money S&P 500 Index puts that require a very large downside move to profit from long put positions. An increase of this index indicates greater expectations for an extreme down move. We discontinued following this index after Digest Issue 25 "Spooked by Interest Rates" since we had not been able to identify any value as a leading, contrary or even coincident indicator. However, since the recent spike higher that seems to be holding in a higher range it may now be worthy of some additional consideration. See the chart below.



The previous four times SKEW advanced above 120 marked by the orange arrows above it quickly retreated, but this time it remains higher as shown in the orange circle suggesting more out-of-the-money S&P 500 Index put activity, another addition to the bearish column.


While it is easy to understand the political shenanigans would be a negative for the markets, adding up the negative indicators compared to the positives attempts to quantify the current market condition. This leads us to the conclusion that some additional hedging is prudent although some of the relative strength stocks listed in Digest Issue 38 "Options Relative Strength Top 15" are still quite favorable. So while continuing to hold a few select relative strength issues we suggest adding some hedges until the political log jam in Washington is resolved. One hedge idea follows.

VIX Hedge Idea

CBOE Volatility Index® (VIX) 16.74. Since VIX options are priced from the VIX futures and both the October and November at-the-money futures are 17, as shown in the VIX options table above, we need to decide if we want to use the October or November 17 call options for our hedge. Since the October futures expire on the 16th this may not be enough time for the political wrangling to be resolved. The November futures expire November 20 so this should be about right. Again, from the VIX options table we see the October calls at 1.20 have an implied volatility of 107.58 while the November calls at 1.95 are 80.67. Therefore, in implied volatility terms the November calls are less expensive, have less time decay loss, but less gamma, or rate of delta change.



Since the VIX has a tendency to spike higher and then quickly close lower, this position requires close monitoring. In June, the VIX spiked up to 22 and then closed back around 17 within 5 days. Although the current political situation is causing more uncertainty, watch for any sudden decline accompanied by increasing VIX futures premiums back toward 10% as a signal to sell the call. One thing is clear, this is not a buy and hold trade idea.

Upcoming Earnings Report Idea

Since earnings reports will soon begin here is a Calendar Spread idea from our good friend Dan Sheridan.

Why Earnings season can be the best time of year for Calendars

What is a Calendar Trade? XYZ is at $100. Buy 1 December 100 call and sell 1 November 100 call. Your long is farther out than the short you are buying and selling the same strike. The trade is put on for a debit and does best if the stock doesn’t move far from the initial strike price, in this case $100. Calendar spreads have two big enemies. The first being price, if the underlying moves to far below or above the initial strike price you can lose money. The second enemy is declining implied volatility, because you are buying more time premium with your long option than you are selling with the short option. Volatility contraction can be painful.

Why can this trade be very special? In an Earnings Calendar trade, we are buying a long option in an expiration that will be affected by earnings and selling a short option in an expiration that will expire before earnings are released. The long option will maintain a steady volatility level and will usually increase because an event is coming that potentially can move the stock. The short option implied volatility will usually stay steady or decrease because it will be unaffected by earnings and will expire before the earnings report.

Trade Idea: I like to do these with stocks that release earnings after an expiration. Since we are approaching the October earnings cycle, here are two stocks that report earnings after October expiration, AAPL and AMZN. Using AAPL for this trade idea, AAPL closed at $483 Friday October 4. Buy 1 November 485 Call (November 1 expiration) and Sell 1 October 485 Call (October 18 expiration). The net debit is around $7.40. I use at-the-money options whenever I put on this trade.

Trade Commentary: The implied volatility of my long November Option is around 33, and it will probably stay steady or increase as we approach AAPL earnings around October 22. My short option has an implied volatility around 27, and it will probably stay steady and eventually decrease as we approach earnings because it expires October 18, before the big event earnings report arrives. Because of the volatility phenomena around earnings, volatility risk to my Calendar is potentially minimal, that’s great! How about price risk? Still have it! Yes, we still have one enemy to deal with, but not dealing with volatility risk is a big deal. Since we won’t have this trade on when earnings comes out, the big potential gap on the report won't affect us.

Risk Management: My plan is to make around 10% and then head for the hills. 10% of what? If I pay $740 for one Calendar, 10% of $740 is $74. I plan to be in the trade around 10 days and exit by the Wednesday October 16, well before the earnings release. What if AAPL moves up or down too far? If AAPL moves to $500 or $470, before the October 18 expiration I might just re-position the spread. What does that mean? I would take off the entire spread and put on a new one at the $500 or $470 strike depending on which way it moves. Volatility often helps during this trade, as the long option will increase in volatility as the short option volatility decreases.

Conclusion: I like this strategy around earnings because this is the only time of the year I can put on Calendar trades and not have to worry about volatility stinging me! I still have to employ sound risk management principles to have long-term success, but anytime I can potentially eliminate one of my main enemies in a strategy, it’s a good thing!

Have a great Day! Just started a new online class, How to manage a $30,000 Portfolio. Check out Sheridanmentoring.com for more information.

The suggestions above use the Friday closing middle prices between the bid and ask. Monday, the option prices will be somewhat different due to the time decay over the weekend and any price change.



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Based upon the weight of our indictors, the equity market now appears squarely focused on the government shutdown and the looming debt ceiling wrangling in Washington. Unless there are some political compromises from their seemingly intransigent positions, the situation could become even more bearish for equities.


Twitter Follow us on twitter for more ideas from our scanners and other developments.


In next week's issue, we will update our Volatility Kings© list for the third quarter.


Finding Previous Issues and Our Reader Response Request

All previous issues of the Digest can be found by using the small calendar at the top right of the first page of any Digest Issue. Click on any underlined date to see the selected issue. Another way to find them is the Table of Contents link in the blog section of our website.

Next week's issue As usual, we encourage you to let us know what you think about how we are doing and what you would like to see in future issues. Send us your questions or comments, or if you would like us to look at a specific stock, ETF or futures contract, let us know. Use the blog response at the bottom of the IVolatility Trading Digest™ page on the IVolatility.com Website. If you would like to receive the Digest by e-mail let us know at Support@IVolatility.com.



I have a question on the CBOE Volatility Index section of the Trading Digest. You state "Both premium measures have declined substantially reflecting increasing futures prices relative the cash VIX". If futures prices are increasing relative to the cash vix, should the premium be increasing?

Posted by Greg on October 08, 2013 at 07:54 PM EDT


Thanks for taking the time to send your VIX question. While the VIX futures increase as the VIX increases the spread between the cash and the futures will narrow during times of uncertainty as more futures are bought at higher prices for hedging. The width of the spread gives us information about the current market. If the spread between the VIX cash and futures is “normally” 10-15% but then declines to 1% or even turns negative, say -5.37% like now, it reflects increased prices are being paid for the futures. For a signal fear is diminishing watch for a quick return to the normal range.

The volume-weighted premium as of the previous days’ close is on our home page at the top of the Options Data Analysis section just under the blue section heading.


Posted by Jacktrader ( on October 09, 2013 at 01:55 PM EDT

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IVolatility.com is not a registered investment adviser and does not offer personalized advice specific to the needs and risk profiles of its readers.Nothing contained in this letter constitutes a recommendation to buy or sell any security. Before entering a position check to see how prices compare to those used in the digest, as the prices are likely to change on the next trading day. Our personnel or independent contractors may own positions and/or trade in the securities mentioned. We are not compensated in any way for publishing information about companies in the digest. Make sure to due your fundamental and technical analysis homework along with a realistic evaluation of position size before considering a commitment.

Our purpose is to offer some ideas that will help you make money using IVolatility. We will also use some other tools that are easily available with an Internet connection. Not a lot of complicated math formulas but good trade management. In addition to Volatility we use fundamental and technical analysis tools to increase the probability of success and reduce risk. We prepare a written trade plan defining why the trade is being made, what we call the "DR" (determining rationale) and the Stop/unwind, called the "SU".