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Today


IVolatility Trading Digest™


Volume 13, Issue 5
January Barometer 2013

January Barometer 2013 - IVolatility Trading Digest

Trade selection using volatility as the primary criteria. Different trades for different volatility opportunities.
Please read IVolatility Trading Digest™ Disclaimer at the very bottom of this page

To add comments or to ask questions please click here (or use the blog "COMMENTS" link at the very bottom of the blog page).

 

January Barometer 2013Now being widely reported by the financial media, it is time to update the January Barometer, also called the January Effect. According to Yale Hirsch of the Stock Trader's Almanac January's close up or down determines the likely direction of the S&P 500 Index for the year. We updated the numbers to include the January 2013 close along with the year-end 2012 results shown below. Based on this record, there is a 90% probability of closing higher at the end of the year or as they say, there is a 90% probability that "as January goes so goes the rest of the year."

Here is the updated January Barometer data.

 

 

While this indicator produces mixed results in the years when January closes lower the record for predicting higher closes for the years when January closes higher is 90% going back to 1950, based data from the Stock Trader's Almanac. Since 2011 was almost flat, it was not included in the up year column when calculating the probability.

Next, we update our important indicators and check the progress of the IWM Calendar trade idea from last week. Then since there are still a good number of important companies yet to report earnings, we have an earnings trade idea for The Walt Disney Company (DIS) from a new contributing author that looks very interesting.

We begin with the S&P 500 Index (SPX) along with the VIX futures premium and the related options data.

 

Review Notes Clip ArtS&P 500 Index (SPX) 1513.17. The current uptrend, measured from the November 16 low at 1343.35, with the December 31reversal low of 1398.11 making the second trendline point, continues higher as suggested in Digest Issue 4 last week. A weak employment report could have been an unbalancing force, but upward revisions for both November and December were interpreted quite positively, so the trend continued higher with some gusto.

S&P 500 Index Implied Volatility (IVXM). Since our last review, the Implied Volatility Index Mean declined from 10.59 to 10.50, having made a noteworthy low of 10.20 on January 24, while the CBOE Volatility Index® (VIX) increased from 12.46 to 12.90.

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 February and 65% to March for an average premium of 16.27% shown above. Our alternative volume weighting between February and March is 14.90%. Up slightly in the last week, the premiums are back into the normal range suggesting somewhat less enthusiasm by professional hedgers to bid the futures prices higher.

Although VIX was virtually unchanged from the week before the futures premium were slightly higher across the entire term structure as both volume and open interest in the front two months increased significantly. On Friday the volume for the February contract expiring on the 13th increased 20,584 contracts while the March volume increased by 27,281 contracts as the total open interest expanded from 415,304 contracts the week before to 434,347 contracts.

iPath S&P 500 VIX Short Term Futures ETN (VXX) 23.09. The five-day average volume was 35.48 million shares with 41.7 million on Friday as it declined 1.25 points.

VelocityShares Daily Inverse VIX Short Term ETN (XIV) 22.04. The 5-day average volume for the inverse was 12.06 million shares with the greatest volume of 16 million on the 1.10 increase Friday.

When the term structure is in contango, or it slopes upward over time, the advantage goes to a long XIV position since it represents a short futures position and VXX continuously sells the near term contract and buys the next longer term contract at a higher price. The spread between February and March is -1.09 compared to the week before when it was -1.04.

VIX Options

With a current 30-day Historical Volatility of 121.19 and 74.40 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.

 

 

Using the IV Index Mean of 58.25 the IV/HV ratio is .48, using the range method for Historical Volatility the ratio is .78 while the VIX put-call ratio at .42 is slightly bullish for VIX, but not for the SPX with a put-call ratio of 1.80, since they move in opposite directions. Friday's options volume was 490,857 contracts compared to the 5-day average of 482,980.

The equity only put-call ratio was .57 making the spread between the SPX put-call ratio and the VIX put-call ratio .15. A narrower spread is market bullish since means the VIX put-call ratio relative to the SPX put-call ratio is lower. As the SPX put-call ratio increases it becomes more bearish while the VIX put-call ratio is more bearish (for the SPX) as the ratio declines making the spread between them wider.

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.

iShares Barclays 7-10 Year Treasury (IEF) 105.60. After closing below the previous support at 106, interest rates continue higher, now at 2.01% as equities moved higher as well, both signs of improving economic expectations. Support for IEF (resistance for 10-year rates) is the March 19 low at 101.83 or 2.39%

US Dollar Index (DX) 79.14. Returning to the lineup, the dollar index is just below the midpoint of its 5-year range between the March 17, 2008 low at 70.70 and the March 9, 2009 high of 89.46. Expectations of improving economic conditions should make the dollar more attractive thereby increasing the dollar index, but the opposite is occurring. Perhaps this suggests the sale of US dollar reserves held in other countries and the redeployment of the proceeds into productive assets once again. As the decline continues, watch the 74 level where it found support from April to September 2011.

iShares Dow Jones Transportation Average Index (IYT) 103.93. As probably the single most important leading indicator for the economy, the uptrend in the transports continues after a brief pull back before Friday's employment report. In addition to being an important Dow Theory confirming indicator the transports deserve close attention as a leading indicator as they continue trending higher having surpassed the previous high of 101.60 that defined the 10-year trading range from the March 2009 low at 38.28. The transports imply the equity uptrend will likely continue.

NYSE McClellan Summation Index 1083.20. In the two weeks since our last review, the market breadth indictor advanced another 192.22 points, with only 36.24 point of the advance occurring last week as the momentum slowed considerably. On February 10, 2012, this index was 1325.47 when the SPX was 1342.64 or 170.53 points lower. Ideally, the market breadth should confirm the major indexes highs, so the breadth divergence is a concern.

 

 

Strategy

StrategyAlong with support from the earnings reports released so far, the current uptrend in the major indexes are reflecting advances in both the transports as well as rising interest rates both suggesting an improving economy. Following this trend now is the time to consider more long positions especially in the economically sensitive sectors that have been performing well like materials, energy and the homebuilders. Although the market appears extended until an unbalancing force triggers a correction it should keep trending higher.

 

IWM Calendar Update

Last week in Digest Issue 4 Dan Sheridan suggested adding to the IWM Calendar spread at 92 and again at 88. Since IWM closed the week at 90.37 without reaching 88 on the downside or 92 on the upside, no additional calendars were added to the position. Stay tuned as it looks like 92 will come before 88.

Earnings Report

From our friends at KeeneOnTheMarket.com here is an interesting suggestion in a somewhat different format.

The Walt Disney Company (DIS) 54.59.

As The Walt Disney Company prepares to release earnings after the close on Tuesday, the stock appears poised to continue its bull run. Their direct ownership in Hulu puts them in an excellent position to capitalize on the proliferation of 4G LTE, as well as tablet and smart phone growth. Other reasons for optimism include the announcement of a new series of Star Wars films by wholly owned subsidiary Lucas Films, and impressive revenue gains by ESPN. Last quarter also saw improved attendance at Disney theme parks, a trend expected to continue.

DIS closed Friday up .71 (1.32%) while the Feb 15 expiration 52.5 puts closed at .40 with an implied volatility of 27.70 and the 55 puts closed at 1.28 with an implied volatility 24.85.

Using the HIMCRRBTT trading plan (Historical Movement, Implied Movement, Measured Move Targets, Chart, Risk, Reward, Breakeven, Time, Target) for all my earnings trades, consider this idea.

The 1Q Disney earnings report is scheduled for release Tuesday after the close. We think they will have a great quarter, but always look at the HIMCRRBTT Trading Plan

H: Historical Movement:

 

 

Historical Earnings Move: Mean 3.7%, Median 3.5%

I: Implied Movement:

Near-term straddle indication:

 

 

M: Measured Move Targets:

Upside: 55 + 2.10= 57.10
Downside: 55 - 2.10= 52.90

C: Looks great - looking to buy any pullbacks.

Trade: Selling the Feb 55-52.5 Bull Put Spread for .88 Credit.

R: Risk: 163 per 1 lot

R: Reward: 87 per 1 lot

B: Breakeven: 54.13

T: Time: February 15

T: Target: Stock stays above 55

We will have a good idea of the results on Wednesday.

For questions and more information about this unique method, visit their website KeeneOnTheMarket.

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

 

"Options data with predictive qualities - Nobody does it better!"

"he best volatility charts in the business."

Options data available for the Asian markets

 

Summary

The January Effect suggests the year will close higher and as they say, "the trend is your friend" so until an unbalancing force creates a correction stay with the uptrend and the market leaders.

 

IVolatility.com Bookstore In addition to the vast number of articles and other information on our web site, take a browse through our bookstore for more reference information and material.

 

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

 

In next week's issue, we will again use our rankers and scanners to find more interesting trade ideas.

 

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.

Comments:

I appreciate your work and the IV site. I have a few questions and am hoping you can help clear them up.

The 1st has to do with VIX, SPX IV and month 1 VIX futures:
1. The VIX is a calculation based on the implied volatility of a normalized 30-day SPX option (a weighted blend of the first two months of S&P 500 options). I understand that your 30 day IV index is a mean – but if it’s a 30 day IV of SPX and VIX is a 30 day IV of SPX options, why aren’t their values closer together? Is your 30 D IV a calendar calc?
2. Obviously, VIX can be above or below month 1 futures. However, in the “normal course” when in contango, VIX will tend to compress towards M1 futures as the premium erodes as we near expiration. But when I think about futures rollover day, and the new M1 is now 30 calendar days out, it seems M1 should be close to your 30 day IV number. I’m assuming your 30 day IV is a CALENDAR day index – true? (per your education note “The annualized IV Index 30 d of 25% implies that the average of daily Volatilities for the nearest 30 calendar days is expected
to be (formula) or 1.57 %.

Secondly, I’m having some difficulty tracking the daily HV and IV for SPX on your site. I understand that your 10, 20, 30 day HV are calculated on trading days of course. When I do the calculation, it matches yours exactly on some days, but some days it doesn’t. Since you also post “1 Week Ago” comps, I can compare that to what you posted a week ago; sometimes the “1 Week Ago” HV does not match what was actually posted for that day. I thought it could be due to the fact that the numbers are updated after hours and I may pull the wrong day at times, but then I’d see the same data for 2 days on my XL sheet – but I don’t. While it doesn’t specifically say what day the data is for, I assume it matches the date in the “HISTORICAL 30-DAYS CORRELATION AGAINST S&P 500 Index (SPX)” section. I also look at the SPX closing price above and can match it to that day. Are there ever times when the HV and IV data are not updated and the SPX price is?

BTW, I’ve read your section on VIX cash vs. the next 2 weighted futures contracts and that you usually see a high premium of about 20% as an SPX sell signal. The assumption is VIX will rise toward the futures prices. I’m not sure that is a valid assumption as futures can just as well fall toward VIX - in which case the SPX would likely be in an up mode. And as you point out, there are times when there’ve been market reversals when the weighted premium spread is narrow, and rallies when the spread is wide. Just my 2 cents.

Thanks for your time and help on this! Best!
Wayne

Posted by Wayne Wolberg on February 04, 2013 at 07:31 PM EST

Wayne,

Thanks for the comments and questions.

1. As for the differences in the VIX and SPX IVXM, “…why aren’t their values closer together?”
The variance is due to the calculation method; however, the fundamental nature of IVXM is the same as VIX. The "New" VIX (introduced in 2003) is a weighted average of option prices, using all available range of strikes, thus it is independent of the model used to derive implied volatilities. This technique works well if we have a many actively traded strikes. This, of course, is true for the S&P 500 Index and many other indices, but not for the majority of optionable stocks. Our method is consistent allowing us to calculate this measure for each individual stock, not just for the broad market indices.

Our IVX calculation uses a proprietary weighting technique factoring the Delta and Vega of each option participating in IVX calculations. In total, we use four ATM options for each expiration to calculate the Implied Volatility Index, normalized to fixed periods (30, 60, 90, 120, 150, 180, 360, 720 days) using a linear interpolation by the square root of time.

Like the VIX, our IVX is the expected stock volatility for a future period. However, unlike VIX, we provide IVX numbers not just for key stock indices, but also for each optionable name in US, Europe and Canada using the same method.

Our IVX30d for SPX is usually slightly lower than VIX since VIX takes into account ALL strike prices while IVX30 uses just the four at-the-money strikes, however they correlated perfectly with very little difference between them.

Is your 30 D IV a calendar calc?

Yes, our IV 30 uses 30 calendar days

2. As noted above it is 30 calendar days. Perhaps the differences are explained the term structure of the VIX futures. Although the new front month future is four or five weeks to expiration, they vary most are four weeks, but some are five weeks, they still have a premium or infrequently a discount to the VIX cash.

Secondly,

There are differences between the intra-day data and the end of day update, which occurs about 9 pm ET reflecting the final price, HV and IV prices for the day. For the Advanced Historical Data service, using the previous day’s data until updated around 9 pm ET, the date is in the title bar at the top right of the page. For Advanced Options that uses 20 minute delayed data during the day, the final numbers are available at the “market close” link on the upper right side just below the symbol box, and one again they are updated around 9 pm ET.

As for the 20% VIX premium, you are right there does not seem to be a consistent pattern. Although we have been collecting the data for several years we have not yet done any rigorous studies to determine if there is a consistent pattern. Our 20% premium is simply an observation from previous periods when it reached this level and may not reflect current conditions since the volume and open interest on VIX Futures and options on the futures as well as the VXX ETF and XIV ETF have increased significantly in the last year. At best, this is like most other aspects of the market that continue to evolve and adapt.

Jack

Posted by Jacktrader on February 06, 2013 at 01:36 PM EST

Jack,

I would like to read comments from the users of the Blog and your comments as well. How can I access these comments without having to go to each blog to see there has been a comment posted? Thanks

Posted by HM on February 09, 2013 at 01:20 PM EST

HM

Thanks for this idea. For now, we don’t have a system for a continuous stream of comments and replies, but we will consider it when we update our blog.

Jack

Posted by Jacktrader on February 11, 2013 at 12:06 PM EST


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