Volatility Volatility Volatility


Equity Options 4 minutes to read
Junvum Kim

Sales Trader

Summary:  Back in March, CBOE Volatility Index (VIX) hit record daily close 82.69 surpassing the previous level 80.86 back in 20 Nov 2008 during Global Financial Crisis (GFC), but now VIX plunged down to about 1/4 of that.

2020 has been one of the years to remember and what a way to start a new decade with Coronavirus pandemic, Fed’s $7 trillion balance sheet, negative oil prices and CBOE Volatility Index (VIX) hitting record daily close 82.69 surpassing the previous level 80.86 that was printed back in 20 Nov 2008 during Global Financial Crisis (GFC).

VIX was created in 1993 by Chicago Board Options Exchange to calculate expected 30-day volatility implied by at-the-money (ATM) S&P 100 index option prices.  Then in 2003, Goldman Sachs and CBOE tweaked the index to better reflect the implied volatility of the benchmark US equity index using the weighted puts and calls prices based on S&P 500 (SPX).  Since then VIX has become the standard as a volatility indicator and hedging tool.  SPX Weeklys – which accounts one third of all SPX options - are also included in VIX calculations.

The formula for the VIX index is a complicated one, hence without going into details, the components of the calculation are out-of-the-money (OTM) put and call options that are more than 23 days (near term) and less than 37 days (next term) to expiry in order to measure 30 day expected volatility of SPX.  Prior to this year’s March market madness when VIX spiked from sub 20 to high of 85.47, VIX level of 50 typically has been resistance level which has only been breached in 2008, 2009, 2015 and 2018.  Apart from this year’s break above 50 that lasted about 1 month and 2008-2009 when it took 5 months for VIX to come back down below 50, both 2015 and 2018 breaks were only single day spike so this type of temporary price action is one of the main characteristics of VIX as historically the sharp rally in VIX usually does not last long as the stock market recovers and price swings stabilisereducing the demand for downside protection.  Long term average of VIX is about 19.5 and the lowest support area being around 10 with lowest close of 9.14 on 3 Nov 2017.

Another area that helps understanding the market conditions or significance of the volatility is the VIX futures term structure which displays prices for different expiries and if you connect these, then the curve usually shows an upward sloping line and this is called Contango.  This is quite normal and seen when stock market condition is without any sharp declines or fluctuations.  The opposite is Backwardation where the curve inverts and near term VIX futures are trading at a premium relative to the expiries further out.  For example, when S&P 500 plunged 12% on 16 Mar earlier this year, spot VIX traded double the price of the June futures contract – 82.69 vs 38.95.  In three weeks, the spread narrowed from 43.74 to 9.37 as SPX found bottom and since then rallied more than 1,000 points.  In the anticipation of this mean reverting behaviour of VIX index, there could be a window where there is an opportunity to make some profit as the extremely wide spread of the futures term structure statistically sits at far end of the standard deviation from the mean, hence buy the spread – sell near leg and buy far leg – until the spread narrows down to more reasonable level around single digit as backwardation switches to contango.  This can be achieved using a calendar futures spread ticket like VXZ0-G1 or alternatively place two buy/sell orders individually.

In addition to the futures curve, option skew/smile/risk reversal is also another way of analysing the implied volatility of the SPX.  By looking at the curve between OTM 10 delta put and 10 delta call, the implied volatility differences between call and put could also provide some indication of market view of the underlying market direction.  For example, if 25 delta put moves up to 8 vol premium over call then this may be seen as implied bearishness (interest in downside protection) of SPX hence translating into potential demand for VIX and vice versa.  This information is not broadly available however Saxo website does have these data on FX options under this link https://www.home.saxo/insights/tools/fx-options-risk-tool/tool-details.  The risk reversal numbers on USDJPY and XAUUSD can be the main ones that would be related to the overall market risk sentiments.

There are number of ways to trade VIX in Saxo Platform:

  • ETF (UVXY and VXX), futures with monthly expiries (VX) and options (VIX)
  • While alternatively stock market volatilities can also be indirectly managed by buying a protection or insurance through long safe haven trio – gold (XAUUSD), US 10 year treasury (ZN), yen (JPY) as well as shorting equity indices through CFD or futures – US500, ESZ0.


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