« March 2018 »

IVolatility Trading Digest™

Volume 18 Issue 11
Correction Confusion [Charts]

Correction Confusion [Charts] - IVolatility Trading Digest™

Trade selection using volatility as the primary criteria. Different trades for different volatility opportunities.
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The "Ides of March" last Thursday was a non event with the S&P 500 Index making its smallest percentage move in quite awhile. Now attention remains focused on the character of the ongoing correction. More follows along with a new long suggestion to consider for The Technology Select Sector SPDR® Fund (XLK) and a volatility idea for FireEye Inc. (FEYE).

Review NotesS&P 500 Index (SPX) 2752.01 turned lower declining 34.56 points or -1.24% raising doubts about the less common symmetrical triangle reversal pattern shown in Digest Issue 10 "Ides of March [Charts]" last week. The alternative bearish rising wedge described in Digest Issue 9 "Correction Resumes [Charts]" could still be alive, but the relative strength in the QQQ and XLK suggests the correction pattern may evolve into a range over the next two weeks.

VIXCBOE Volatility Index® (VIX) 15.80 gained 1.16 points or +7.92% last week. The change in our similar IVolatility Implied Volatility Index Mean, IVXM using four at-the-money options for each expiration period along with our proprietary technique that includes the delta and vega of each option, was more modest, gaining .03 points or +.28% to 10.91.


VIX Futures Premium

The chart below shows as our calculation of Larry McMillan’s day-weighted average between the first and second month futures contracts.

With 2 trading days until March expiration, the day-weighted premium between March and April allocated 8% March and 92% to April for a 3.72% premium, back below the bottom of the green zone between 10% to 30%. The unusual zig zag pattern puts it back into the caution zone.


The premium measures the amount that futures currently trade above or below the cash VIX, (contango or backwardation) until front month future converges with the VIX at expiration. At the extremes, declines below 10 and advances above 30 are both unstable.

Foremost Indicator Review

CBOE S&P 500 Skew Index (SKEW) 147.35 up sharply last week gaining 19.56 points or +15.31% and above the important 140 level. SKEW measures purchases 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. The CBOE explains further, a Skew value of 100 means the perceived distribution of S&P 500 Index log-returns is normal so the probability of outlier returns is negligible. Calculated from SPX option prices it describes "tail risk." As Skew rises above 100, the left tail of the distribution acquires more weight increasing the probability of outlier returns. This weekly chart shows last week's advance compared to previous spikes that occurred for the week of March 17, 2017 at 148.58 and October 20, 2017 at 148.11.


If related to March expiration of options and futures it should quickly decline back below 140 again.

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Another on the long side

ideaSince the tech sector has either pulled back and completed the retest of the recent breakout or is still in the process, here are two ideas to consider.

The Technology Select Sector SPDR® Fund (XLK) 69.91 declined .68 points or -.97% last week partially filling the gap created on the March 9 breakout between 69.26 and 69.60. Assuming the breakout was for real and since there is no requirement in traditional bar chart technical analysis for breakaway gaps to be filled consider this long call spread with plenty of time to expiration.

Earnings, revenue growth and the US Dollar Index (DX) are important variables for this group so watch for a DX bottom that may be forming.

Call spreads with defined and limited risk offers an opportunity to participate in any further upside with limited risk while partially hedging the loss of time decay and implied volatility.

The current Historical Volatility is 27.94 and 22.92 using the Parkinson's range method, with an Implied Volatility Index Mean of 15.25 up from 14.60 the previous week and .22 of the distance between the 52-week high and low. The implied volatility/historical volatility ratio using the range method is .67 so option prices are relatively low compared to the recent movement of the ETF. Friday’s option volume was 10,883 contracts with the 5-day average of 32,410 contracts with reasonable bid/ask spreads.


Using the ask price for the buy and mid for the sell the call spread debit would be 1.23 about 41% of the distance between the strike prices without implied volatility edge. Longer dated options allow more time to reach the short call objective at the cost of some option liquidity. With good support at 69, use a close below the 69-68 range as the SU (stop/unwind).

Now for a tech idea with an implied volatility kicker.

FireEye Inc. (FEYE) 17.76 down .22 points or -1.22% for the week after pulling back from breaking out last Thursday. Although not included the 4Q Volatility Kings™ list it certainly has the right rising and declining implied volatility pattern and will likely be included this quarter if the options volume remains high. Scheduled to report 1Q earnings on May 10 the implied volatility has just begun to rise once again anticipating the next report.

The current Historical Volatility is 41.30 and 45.70 using the Parkinson's range method, with an Implied Volatility Index Mean of 40.12 at .30 of the distance between the 52-week high and low. Before the last report on February 8 it reached 63. The implied volatility/historical volatility ratio using the range method is .88 so option prices are inexpensive relative to the recent movement of the stock. Friday’s option volume was 25,535 contracts with the 5-day average of 21,830 contracts with reasonable bid/ask spreads. This long call with low time decay and high vega should do well assuming the stock continues higher and the implied volatility rises.


Use a close back below the last pivot just under 17.50 as the SU (stop/unwind).

Monday's option prices will be somewhat different due to the time decay over the weekend and any price change.


cautionThe quick decline in implied volatility and with many leading stocks and selected ETFs breaking out to the upside, along with improving market breadth, attractive Iron Condors will be harder find. Accordingly, its back to the long side, using long calls, call spreads and call spreads in combination with short puts.

Continue tracking the potential bottoming pattern underway in the US Dollar Index (DX) & DXY, $USD, now 89.80 down .27 or -.30% last week. See the chart in Digest Issue 9 "Correction Resumes [Charts]." A double bottom or maybe a Head & Shoulders Bottom pattern appears underway. Although interest rates at the short end are rising, long Treasury Bond interest rates are declining as the yield curve flattens. Perhaps funds are flowing out of equities into longer dated Treasury issues.


The correction that really got underway with a gap opening lower on January 30 continues developing. The possibilities include a symmetrical triangle reversal or a still developing bearish rising wedge that could transition into a range supported by relative strength in technology.

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Actionable Options™
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Next week more Foremost Indicators along with the ongoing correction pattern.

Finding Previous Issues and Our Reader Response Request

PreviousIssuesAll 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 source is the Table of Contents link found in the lower right side of the IVolatility Trading Digest section on the home page of our website.


CommentAs always, 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 at Support@IVolatility.com or use the blog response at the bottom of the IVolatility Trading Digest™ page on the IVolatility.com website. To receive the Digest by e-mail let us know at Support@IVolatility.com




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IVolatility Trading DigestTM Disclaimer
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".