- With the sharp selloff yesterday the VIX spiked to levels it hadn't seen since April.
- Implied volatility has a hard time distinguishing between sharp moves higher and lower due to the way they play out asymmetrically.
- The market had been on a one way tear until yesterday. Does that mean volatility is back or does it simply mean both up and down will start to cancel each other out a little more?
- Just as the rally from the lows since March re-established that stocks can't go down forever, yesterday's selloff will likely serve as a reminder that stocks can't go up forever either.
The last few weeks we saw something in the market that happens only rarely, upside volatility that felt more like "a crash higher". In many stocks, from the big names, all the way down to the absurd (HTZ, CHK) it felt like 1999. Yesterday, that all came to a screeching halt where the markets flipped and we saw a selloff unlike anything we'd seen since the throes of the Covid related selling in March. With that move lower we saw the VIX back above 40 (now 35) and many are wondering what that means and how to trade it.
You'll hear many options traders refer to their style of trading as "trading vol". What that means is they look to sell options when implied volatility is high, and buy it (less so) when it is low. The idea here has a strong mathematical basis, volatility is mean reverting and you want to buy low and sell high. However, there's no perfect vehicle to trade "vol". When you put on a trade you are still at the whims of price movement of the underlying.
One of the whims that gets exposed in the case of a "crash higher" in that when stocks go higher, implied volatility tends to go lower. That often means mis-priced or mis-placed options trades. For instance, one could have sold a straddle or a strangle in an airline stock last month, been really right on "vol" but very very wrong on stock price as the stocks ripped higher through the range established by your trade. In other words, the expected move is the actionable expression of implied volatility and must be accounted for when establishing trades.
Yesterday's sell-off is interesting in that it did two things. It reset implied volatility higher, but at the same time it may have re-established that stocks can go two ways. Just as the rally from the lows since March re-established that stocks can't go down forever, yesterday's selloff will likely serve as a reminder that stocks can't go up forever either.
Ways to Play
Here's a look at the expected move for SPY over the next month, and the next 3 months, from OptionsAI technology:
As you can see, the 1 month expected move is pricing a bullish consensus about in line with the highs from just a few days ago. The 1 month bearish consensus is about in line with the the small sell-off lows we saw in May. That seems about right. The options market is basically saying if we revisited those May lows we'd likely see buyers step-in. And we saw a bounce from here over the next few weeks, we'd likely see sellers at the highs from earlier this week (as established yesterday).
What that means is those looking to sell vol on this VIX spike have a very defined range over the next month to work with.
Here's a neutral price target in SPY in July, and the strikes generated using OptionsAI technology:
Here is a closer look at the condor and butterfly sales, both using 285 to the downside and 325 to the upside for strikes:
Here's how the Fly looks on the chart:
And the condor:
In both cases these trades are "selling vol". But more importantly, and for practical purposes they are reacting to what now looks like the possibility of two way movement in the market, something we hadn't really seen in a few months of down every day to up every day price action.
These trade would obviously benefit from IV going lower, but even without that they are also a trade that benefits from the market finding sellers higher, and buyers lower, and a practical expression that the market likely doesn't go massively one way or the other over the next month.
See a part of OptionsAI technology with your own price target and demo trades in AAPL HERE