The VIX – What You Need to Know

If you’re thinking about trading VIX options or futures, this 16-minute video will arm you with essential information about these widely-misunderstood and confusing contracts.

One correction: Thanks to Bill Luby at vixandmore.blogspot.com/ for pointing out that VIX futures were introduced before VIX options.

14 Responses to “The VIX – What You Need to Know”

  1. johnny says:

    Question: in your example of fair-pricing conversion, let me see if I get it right: to work out a system that always locks in brake-evens, you’d tell the computer:
    A. track front month VIX future price (let’s call it variable “J”)

    B. search the front month’s VIX options chain for a straddle at strike price “K” for which Pk-Ck (that is, ATM call price minus ATM put price) equals J-K.
    in simple words and from your example: the difference between 29 and 25 is 4, and the difference between 4.75 and 0.75 is also 4.

    C. if conditions are met, simultaneously long the future and sell a synthetic contract (selling and buying P and C at the same strike so your total delta is 0).

    am I correct so far? of course, you could reverse the order and short a future while buying the synthetic contract.

    Now, to make the algorithm profitable, all one has to do is change sequence B to say:

    B. B. search the front month’s VIX options chain for a straddle at strike price “K” for which Pk-Ck (that is, ATM call price minus ATM put price) IS LARGER than J-K. [Pk-Ck>J-K]
    in simple words and from your example: the difference between 29 and 25 is 4, and the difference between 4.75 and 0.70 is also 0.5 which would leave you at a 0.5 profit.

    Now my question is:
    1. did I get it right?
    2. how common is a profitable arbitrage situation on those products? I am, since the options are priced using Black-Scholes, it’s hard for me to imagine the difference between puts and cal prices will always be 0.. right? but if that;s the case – how come not every algo in the world is working on that?

    thanks in advance

    Johnny

  2. Phillip Edie says:

    I didn’t I discover these no nonsence videos years ago, they would have saved me a lot of real world pain. Thank You Dean.

  3. nando pacheco…

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  4. tsacky says:

    Nice vid Dean. Very informative.

    I have one question. You argued that the brokerages use the VIX as the underlying of VIX options and this causes problems regarding high implied volatility differences between calls
    and puts of the same strike. Why is that so? After all, the Implied volatilities are
    calculated based on the same (erroneous or not) underlying proxy. Why using
    the VIX cash as underlying produces such big differences between
    implied volatilities? Why is the wrong underlying the culprit?

  5. jocuri zane says:

    jocuri zane…

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  6. NSh says:

    Thank you for that very clear explanation.

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  8. MAteMA says:

    Great explanation. Thank you very much.

    MAteMA

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  10. i-trade-vol-of-vol says:

    Dean; not many people will take the time to explain those details to the retail public, nice job.

    i happen to trade vix future switches and am always looking for good hedges to long and short spreads. after spending much time modeling hedges with vix ops or es futures; i have come to the conclusion that well placed trades and properly working short spreads against long spreads is my best hedge at this time. i also trade convergence when i see the opportunity. if you have any other input that i could look at in my type of trading; i’ll be all ears. thanks again.

  11. Candy Chiu says:

    I also noticed the ultra high implied volatility of the VIX options. I rationalized the phenomenon that since VIX is not tradable, and its closest sibling, the future, does not track its performance well, the implied vol ought to be huge to compensate for the risk of writing options.

    Thanks for your information.

  12. datulk says:

    Thanks Dean. Much appreciated. You made it very clear. I was under the impression that options are based on cash VIX.
    Please keep it up. You are doing a valuable service.

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  14. Thanks for the video Dean,

    I’ve not traded these VIX options, but someone did show me a graph of disparity between the IVs of puts and call (as per your Think and Swim example). I couldn’t believe it and thought there must be something seriously amiss.

    You’ve explained very clearly where it is.

    Cheers,
    Wayne