How to Trade the VIX and Market Volatility Using ETFs
These trades are very high probability and the gains are great when they’re coming, but sometimes, the losses are intolerable. When trading the VIX, a bad trade could mean the end of your account, and you may owe your broker money. In summary, the VIX predicts market volatility and due to its wider timeframe, it is hard to target https://bigbostrade.com/ the two extremes making it difficult to trade directly. However, traders have adopted the practice of trading products that track the VIX and as demonstrated on the charts, it tends to pay off some of the time. In general terms, the VIX has also been used to determine the overall market sentiment and views towards the economy.
It also introduces the opportunity for a variety of different types of products within the VIX ETF category. Furthermore, most VIX ETFs are, in fact, exchange-traded notes (ETNs), which carry the counterparty risk of issuing banks. In simple terms, the VIX is the volatility index and it measures the fear of investors in the market in the US benchmark equity index S&P 500. VIX index usually shows the expected 30-day volatility of the S&P 500.
Learn to trade
When the VIX is low, it means there is less market fear, more stability and long-term growth. The VIX typically has a negative correlation with the S&P 500, so when the VIX is low, the S&P 500 is usually experiencing a rise in price. A call option would give you the right to buy the S&P 500 at a specific price, while a put option would give you the right to sell the S&P 500 at a specific price. On Aug. 24 the VIX opened above 50, a level it had never reached before (or since) the 2008 financial crisis.
- Investors often worry about market volatility—especially the kind of big negative moves seen during the credit crisis of 2008 or at the onset of the COVID-19 pandemic in early 2020.
- For example, consolidating markets tend to depress implied volatility, while sharply moving markets tend to boost it.
- If you have an interest in trading VIX options, keep in mind that how you trade VIX options is just as important as where you trade, so make sure you pick the right options broker for your needs.
- This would cause many investors to become protective of their stock positions.
The VIX September 21 call is trading at $4.10 (or $410 per contract, which is also your maximum risk). On a fundamental level, the index tracks the implied volatility of the S&P 500 options. It will therefore typically rise to reflect a higher level of fearful emotions and a growing state of uncertainty in the market and it will decline to signal a reduction in the level of those risk-related factors. Positions in the underlying VIX futures contracts are always offset before the delivery date or offset in cash on the delivery date since there can be no delivery of the index.
Your assets are protected at Schwab.
The ETN formerly traded as the iPath S&P 500 VIX Mid-Term Futures ETN (VXZ) and had a maturity date of Jan. 30, 2019. The inception date for the series B 30-year ETN was Jan. 17, 2018, and the maturity date is Jan. 23, 2048. The ETN formerly traded as the iPath S&P 500 VIX Short-Term Futures ETN (VXX) from its inception date of Jan. 29, 2009, until its maturity date of Jan. 30, 2019.
The VIX tends to be largely based on stock market reactions; for instance, when the prices of stocks fall, VIX tends to increase, often to an exaggerated degree. In summary, the fear index VIX can tell you a lot about the market and allows you to determine the market sentiment. In times of fear, VIX trading options is the most efficient strategy to hedge your portfolio against downside risk. The VIX trading strategy presented through this guide is only a small example of the things that can be accomplished with the VIX. The VIX, or Chicago Board Options Exchange (CBOE) Volatility Index, consists of a real-time market index representing the market’s expectation of 30-day forward-looking or implied volatility in the stock market. As a result, the performance of the VXX is stronger in the short term but not in the long term.
Regulation and oversight would probably not be an issue since any broker dealing in VIX options must be registered with the CBOE and the Options Clearing Corp. (OCC). Options trading strategies vary and can be implemented for up markets, down markets and sideways markets. It’s important to be aware of what type of market conditions you will be trading in. Getting a good handle on the underlying index before trading options on the index also makes perfect sense.
Before 1993, market volatility was calculated using historical prices, and market participants were limited to knowing how much volatility had occurred in the past. The VIX was the first index designed to measure the market’s expectation of constant, 30-day expected volatility of the U.S. stock market. To do this, you need to understand the relationship between stock prices and implied volatility. When stock prices are expected to make a big move up or down, investors typically purchase more options. This would cause many investors to become protective of their stock positions.
How to Trade VIX – Wall Street’s Fear Index
The ProShares Short VIX Short-Term Futures ETF (SVXY) is an inverse ETF that seeks daily investment results equal to one-half the inverse of the daily performance of the S&P 500 VIX Short-Term Futures Index. Accordingly, this is much more a measure of future volatility, and it tends to be a much less volatile play on volatility. This ETN typically has an average duration of around five months, and that same negative roll yield applies—if the market is stable and how to trade on nasdaq volatility is low, the futures index will lose money. While investors will often refer to VIX ETFs, the fact is that the majority of the investments offered are exchange-traded notes (ETNs). One of the largest and most successful VIX products is the iPath Series B S&P 500 VIX Short-Term Futures ETN (VXX). The VXX is issued by Barclays Capital and has an expense ratio of 0.89% and more than $450 million in assets under management (AUM) as of July 21, 2023.
However, for VIX options, the underlying is the corresponding VIX futures contract (/VX). After working out your strategy and developing your trading plan, you can test your plan in a demo account offered by your chosen broker. Once you’re satisfied that your strategy can be profitable and have successfully tested your trading plan in the demo account, you’re ready to start trading VIX options in a live account. In addition to the prevailing market environment, be aware of what risk events an option’s lifetime encompasses. These are important upcoming economic releases or anticipated major events, such as elections or referendums, which might take place over the duration of the options you trade.
When you take a short position on the VIX, you’re essentially expecting that the S&P 500 is going to rise in value. Short-selling volatility is particularly popular when interest rates are low, there’s reasonable economic growth and low volatility across financial markets. The position you decide to take will depend on your expectation of volatility levels. Traders who go long on the VIX are those who believe that volatility is going to increase and so the VIX will rise. Going long on the VIX is a popular position in times of financial instability, when there is a lot of stress and uncertainty in the market. The options that qualify for inclusion will be at the money so that they show the general market perception of which strike prices are going to be hit before expiry.
The current volatility cannot be known ahead of time, so the VIX is best used in tandem with historical analysis of support and resistance lines. To declare the event over would require the VIX to fall 20% to 30% from those levels down into the mid teens. Data contained herein from third-party providers are obtained from what are considered reliable sources. However, accuracy, completeness or reliability cannot be guaranteed. Just because an investment has VIX in its name doesn’t mean that it will move in line with the VIX Index.
Trading platforms
Many market players avoid price prediction entirely during stressful periods. Instead, they place bets on the direction of volatility through VIX futures contracts or specialized equity funds that react to those contracts. While profiting from these instruments requires sophisticated skills, the payoff is worth the effort, especially when markets are behaving in a very volatile way, be it trending up or down. Such appreciation will generally involve the underlying market moving to trade at a less attractive level than the strike price of the option you purchase by its expiration. When trading options, appreciation on a long option position can also reflect a rise in implied volatility.
Volatility fund strategies require a two-step approach that examines VIX as well as price action on the targeted fund. An understanding of VIX technical analysis can mitigate the profit-dampening effect of contango by identifying levels and turning points where funds will lose trend momentum. It works because longer-dated futures contracts used to calculate pricing are less sensitive to short-term VIX movement, exerting a greater effect when trend momentum wanes. Real-time pricing of funds decays through contango, which reflects timing variations between a futures contract and spot prices.
In your opinion, stocks will fall in the next 45 days and the VIX should move to at least 25. You also note the September VIX futures are trading at 22.35—at a premium to the underlying VIX Index. Because you’re trading the September VIX options, you might use the September /VX contract as the underlying for valuation purposes.