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The watchword these days has become 'volatility.' It's on everybody's lips. It used to be the case that as stocks went up, volatility went down. That relationship is coming apart at the seams these days with investors keen to buy the CBOE VIX index futures and options with the specific aim of protecting portfolios from a downturn in the broad market. Once again that theme has emerged today with the VIX index rising even when the Dow and S&P 500 are both up. What's more traders are lifting the curve and buying volatility across the futures curve for as far as the eye can see. The reason is the fear of financial contagion from the subprime market, which is unwinding in mercurial fashion. Volatility traders are pushing day by day to take cover from an impending sell off. It might not come, but at least they'll be ready if it does.

VIX - The CBOE VIX index [VIX] rose 2.5 percent this morning to 19.02 courtesy of toxic mixture of an equity market rebound mixed with confirmation of housing dog-days, as if it was needed, from new home sales statistics. In the August contract a 1*2 ratio callspread may have been placed between the 20/25 strikes whereby one lower strike was bought against the sale of two higher strike calls. The trend has certainly been toards buying further out-of-the-money calls, but today it could have been the case that the price was right for some investors wishing to take advantage of relatively high volatility with this spread. The cost would have been around 0.30 leaving an investor with a maximum gain of 4.70 if the VIX rallies to 25. But beyond that point the investor starts to lose money, being net short of a call. The August 14 puts were also a la mode today trading at a dime on volume of 8,500 lots.

AMZN – There's no hiding the fact that investors loved the Amazon.com (NASDAQ:AMZN) earnings report. The pre-market share buying sent shares up 22% while a further buying spree sent shares up more than 27% in total to reach a high of $88.52. Meanwhile options traders have jumped on the August 80 put leaving it as the most actively traded across the series today. By 11:30am some 32,760 puts have traded between 1.10 and 1.80. We have three theories on this action. First, sellers are out in force grabbing what premium they can in the expectation that Amazon has a new line in the sand drawn at $80.00. Second, the jump in shares will turn out to be unsustainable and the meteoric jump in the share price will eventually give way, making this protection look inexpensive. Third, its part of a volatility play post-earnings in conjunction with the August 90 calls, which have seen 27,100 lots trade. Implied options volatility at 41.6% today is still high relative to historic share price volatility at 27.24%, but still down from Tuesday's 56.75% implied. So these trades may represent active selling of that August strangle. Investors are still buyers of the 90 calls in the hope that shares in Amazon will continue to flourish.

ILMN - Options in Illumina (NASDAQ:ILMN) - a biotech with an emerging fingerprint in DNA analysis, genetic profiling and biomarker discovery - are trading at more than five times their average daily frequency today. The development comes one day after the biotech reported second-quarter EPS of 16 cents, beating street estimates of 14 cents per share in advance of Tuesday's Q2 report. With 5,640 contracts moving in early market action, Illumina's shares are up more than 6 percent at $44.70. Nearly three and a half times as many calls are moving as puts. Call volume has centered on the August series 35, 40 and 45 strikes, with more than 800 contracts moving at the latter strike. The September 45 at-the-money straddle has attracted some interest with 408 lots on the call side and 255 contracts to the put. A buyer of this straddle pays a combined premium of $5.20 – more than 10 percent of today's share price – against an anticipated move by the September expiry to either $50.20 or down to $39.80 – a spread equal to nearly a quarter of the current share price.

SPX - With the S&P down $1.00 in the first 15 minutes of trading, newly emboldened premium sellers took advantage and dumped more than 5,000 of the SPX 1450 and 1475 puts. Trading at 19 percent and 21 percent implied volatility respectively, these options offered sellers an additional 3-5 percent volatility compared with the at the money rates of only 16 percent. Overall, put volatilities were slightly higher than their corresponding call values, although early gains of $9.00 in the SPX index started to reverse this trend. Still, the downside 1465 puts traded at over 19 percent implied volatility compared with the upside 1580 calls trading at only 12 percent, with both strikes equally out of the money. As expected, heaviest volume was in the front month contract expiring on August 16, with the lone exception being a December '08/ June '09 put diagonal spread that traded 3,500 times with the buyer paying 0.15 to own the 2009 options.

The release of June existing home sales showed a further decline of 3.8% and the SPX index made an about face just before 10 a.m., dropping below 1507 as VIX soared from 17.50 to 19 in the next hour. Changing direction once again, the index began to rise, and followed through with a gain of nearly $10 before noon, up $5.00 on the day. Overall, 220,000 SPX options had changed hands by 11:30 EST, led by volume of 15,000 contracts in each the August 1450, 1475, and 1500 puts.

NTRI - Traders are shedding calls in Nutri-System (NASDAQ:NTRI) like so many unwanted pounds today, sending its trading volume into positively metabolic territory. The move comes after the company cut its Q3 earnings guidance, citing a "softening of demand" for its line of weight control products since the June debut of GlaxoSmithKline 's over-the-counter diet drug, Alli. NutriSystem shares are down more than 12 percent to $56.00 on the news, with option contracts moving at more than four times the average daily volume. Calls are out moving puts by only a factor of 1.5 in what looks like a rush to unload calls and go long volatility. Call-side premiums have dropped some 75-100 percent, with more than 5,000 lots traded at the August 75.0 strike. Put-side positioning in the August series has centered at the 55, 60 and 65 strike prices. In a gesture of singular pessimism about the future of the share price, more than 2,000 lots were logged to the put side at the December 35.0 strike.

SWY - After last-week's boisterous rumors of an Eddie Lampert takeover ultimately fizzled, options volume in Safeway (NYSE:SWY) saw an uptick in volume to five times the daily average today, courtesy of some fresh positioning involving three 7,500 lot plays in the March '08 series. On the call side, 7,500 lots on the March 35 call were logged at a contract price of $2.10, while 7,500 puts at the March 30 and 35 strikes traded. The combined volume of nearly 23,000 contracts was equal to nearly half of its open interest. Safeway shares are down one and a quarter percent this morning at $32.20 and looking troubled below the recent trading range.

ANR - One week after an analyst downgrade of the entire U.S. coal mining sector, volume in US coal producer Alpha Natural Resources (NYSE:ANR) soared to ten times the daily average today. Shares in the company are down two percent on the day, currently at $18.50. The active volume of just over 21,000 lots is equivalent to some 20 percent of its total outstanding interest, and is concentrated almost entirely on the call side. Premiums are sharply elevated on the put side, but volume here is negligible. Given the conspicuous lot sizes (upwards of 10,000 contracts involved at each side), we observed what may be selling of call spreads in the September series at the 17.5 and 22.50 strikes. Alpha Natural Resources is due to release Q2 earnings on August 7.

EWGiShares MSCI Germany – Open interest on the German market ETF stands at only 11,307 contracts telling us that today's 19,600 lot position in the January 35 put is a fresh and large position. With ETF shares trading 1 percent lower at $32.61 the options are in-the-money and traded at a cost of 3.8 indicating a breakeven for a buyer at $31.20. Just 10 days ago the share price peaked at $34.70 and whether this trade marks protection or premium selling we're not yet clear.

By 12:15pm the Dow Jones industrial average rose 0.22 percent to 13,747.60. The S&P 500 rose by 0.27 percent to 1,514.99, while the Nasdaq composite index rallied 0.18 percentage point this morning to 2,244.48.

Source: Wednesday's Options Report: Amazon, Illumina, NutriSystem, Safeway, Alpha Natural, iShares MSCI Germany