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On February 10, I rushed to create a short-term bearish setup on Google (GOOG) based on the sudden surge in volatility. I concluded that if the volatility gains anticipated stock losses in the coming week, a put spread on GOOG would quickly become very valuable. I included a chart of GOOG's historical 5-day performance as evidence that the 1.5-2.5% decline I needed was well within the realm of the possible. I bought puts in the iPath S&P 500 VIX Short-Term Futures ETN (VXX) to hedge my position. See "Surge In Volatility Makes Google Puts An Attractive Short-Term Bearish Play" for more details.

The end result of the trade was a small loss. If I had been able to respond to unfolding events at the speed of a trading robot, I would have salvaged a small profit. Here is a summary of my execution (I posted most of these trades to my twitter feed using the #120trade hashtag):

  1. Monday, February 13: Volatility collapsed from Friday's surge, losing all its gains and then some before a small bounce from the lows. The dramatic move motivated me to close out the puts on VXX right away. Given the Friday expiration, it seemed I should not expect much more gain from the puts. However, the 81% gain in these puts did not fully pay for my GOOG put spread.
  2. Wednesday, February 15: Volatility ran above the highs from the previous week, so I bought more VXX puts. Figuring any reversal from this point would take time, I chose a March expiration (Mar 17 '12 $25).
  3. Thursday, February 16: GOOG finally dipped below $600. At the lows of the day at $598, my put spread turned profitable for the first time. The satisfaction lasted all of 15 minutes as GOOG sharply reversed course like a buoy pushed under water. I did not even have a chance to think about closing out the trade!
  4. Near the height of the bounce, I prepared for the seemingly inevitable, but I also reloaded on a 585/600 put spread, expiring next Friday. I used much of the same rationale as before.
  5. I decided to hold onto the original put spread. While GOOG traded off Thursday's high, it did not come close to another break below $600. The put spread expired worthless.

During the entire week, GOOG never broke overhead resistance at the 50-day moving average. The stock did slowly trend downward after Monday's small gap up. GOOG closed the week flat after trending down for the rest of the week.

click to enlarge images

A close-up look at Google

A close-up look at Google's recent trading

While last week did not unfold as desired, I am optimistic that the holiday shortened week will deliver. The subtle trend downward, the stubbornness of overhead resistance, and the current profit in my latest GOOG put spread are positive signs that the market is expecting an imminent break of the $600 mark. This all leaves my original logic for this trade intact, minus a surge in volatility of course.

In the meantime, volatility on the S&P 500 is approaching its multi-month lows. The volatility surge from February 10 is a far distant memory. If the market pushes volatility ever lower, I am expecting to make even more money on the VXX puts and will certainly cover the full cost of the latest round on the Google put spread.

For reference here is an updated chart on volatility.

Volatility is sinking fast again

Volatility is sinking fast again

Be careful out there!

Disclosure: I am long VXX shares and puts, long GOOG put spread

Source: Google Puts Remain An Attractive Short-Term Bearish Play