There He Goes Again (to the VIX That is)

  • SumoMe

OK I am beginning to become something of a broken record.  I keep talking about following the trend (in case you have not noticed, the trend is “Up”), but then I keep fretting and talk about hedging against a near-term decline using call options on ticker VXX (the exchange-traded fund that tracks the VIX Index).

So which is it Jay, up or down?  Well, I claim it can be both.  You can be a bullish long-term trend follower and still be concerned and take action to hedge against a short-term decline which does not include “selling everything”.

The Good News

The good news is that the stock market is clearly in an uptrend and in addition (and as I wrote about here (http://jayonthemarkets.com/2013/11/04/santa-claus-is-coming-to-town/) the Santa Claus Rally Time Period begins at the close on 11/22.  So in a perfect world one would simply leave well enough alone and enjoy the ride (in case you have not noticed it is not exactly a perfect world).

The Bad News

The bad news is that several indicators that I follow are starting to give warning signs (albeit minor ones) and ticker VXX itself (http://jayonthemarkets.com/2013/10/30/is-vxx-issuing-a-warning/) is currently the picture of complacency.  So I have concerns about the stock market in the very near term.  At the same time I do not want to “sell everything” and load up on short positions.  So what to do?  Man the VIX!

VXX Call Option

The position I am looking at involves buying the December VXX 13 strike price call option.  As this is written ticker VXX is trading at $12.29 a share and the December VXX call is trading at $0.59 (or $59 for a 1-lot).

In Figure 1 we see the utter lackadaisical action of late in ticker VXX.  My own subjective interpretation is that after the shutdown/debt limit “crisis” ended the investment world went “OK, back to the bull market, blah, blah, blah.”   jotm1107-01 Figure 1 – VXX is the picture of “complacency” (Chart courtesy of AIQ TradingExpert)

The thing to note here is that the Average True Range (shown below the bar chart) is down to a level that preceded the previous to “spikes” in VXX.

The December 13 VXX trade is displayed in Figures 2 and 3. jotm20131107-02Figure 2 – VXX December 13 call option details (Courtesy: www.OptionsAnalysis.com)

jotm 20131107-03Figure 3 – VXX December 13 call option risk curves (Courtesy: www.OptionsAnalysis.com)

So in light of all of this, you have got to ask yourself two questions:

Question #1: Do you have any concerns about the stock market in the short-term, “yes” or “no”.

If you answered “yes” to Question #1, please proceed to Question #2.

Question #2:  Do you have 59 bucks?

Jay Kaeppel

3 thoughts on “There He Goes Again (to the VIX That is)

  1. VXX, in my opinion, is a horrible hedge due to its natural downward bias. Due to rollover expenses, VXX will bleed lower even in a sideways market while one waits for volatility. While I like the idea, I MUCH prefer buying VIX calls, or even puts on the market indexes. It prevents the “bleeding” associated with VXX.

    1. Jonathan, I appreciate your input and agree that VXX has a built in bias to the downside. I still consider it a good hedging tool though as long as you are talking about a shorter-term position. If VXX pops from say 12 to 15 or 12 to 18 quickly there is great upside potential in the call options, and according to comparative analysis that I have done, during short, sharp market declines VXX calls tend to offer more profit potential than stock index puts. I have not looked at straight VIX options so that will be something to look at. Take Care, Jay

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