TAKE A PUNT ON A SHOCK WITH THE VIX
MARTIN SLANEY
HEAD OF DERIVATIVES, GFT
WHATEVER your trading style, one factor which is common ground is market volatility. It is inevitably a concept which features regularly in this column, due to the impact it can have on volumes and the life of a trade. The majority of CFD traders thrive on volatility, but just because the markets may seem calmer, that doesn’t mean there aren’t trading opportunities. Enter the VIX, the futures market on volatility.
The VIX is the everyday name for the Chicago Board Options Exchange’s volatility index. It’s a straightforward way to trade volatility itself, without needing to know how to trade options. The VIX futures is a measure of the implied volatility of the S&P 500 index options, and a high number of this index corresponds to high volatility, and vice versa. It’s a monthly futures contract, measuring anticipated volatility over the next 30-day period. It can also be viewed as the cost of insurance against a fickle market.
Right now, the markets are far from volatile. Rather than sitting on our hands during the quiet times, the VIX offers an opportunity for us to capitalise on them. Last week the VIX fell to its lowest level since September 2008 – around the 22.50 level. That’s compared to spiking at nearly 90 last October, the intraday record for the market.
The drop back to more typical levels is understandable; while the fall in volatility seems relatively steep, the long term average is actually below the current level, at around 20. With confidence levels around the world picking up, fear is being squeezed out of the markets. With even Warren Buffet now suggesting that the market has “plateaued”, it would be easy to assume that the volatility is going to take a back seat for some time.
I am broadly bullish of stock indices for the rest of 2009 – that 10,000 level on the Dow is within touching distance – but it would be naive to assume that there will be no more hiccups.
The VIX can be that loaded spring, and going long at current levels not only provides a sensible hedge against future instabilities, it also offers decent speculative value as a punt – albeit a rather crude one – on the chance of a market shock and an accompanying escalation in anxiety.