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VIX - Market Sentiment

The day after the S&P blew through resistance of 1375 and closed above 1390, Wednesday saw futures fairly muted. Only 7 handles top to bottom the futures traded today between 1386 and 1393, a slim 7 point range. As stated in previous sonar reports the resistance was melting away and the next leg sure enough was up. Today numbers out of Europe were not the greatest but the markets were rallying across the pond nonetheless following the U.S. lead higher.

The spot CBOE Volatility Index (VIX) opened at a five-year low dating back to 2007 on Tuesday. Wednesday saw spot VIX move higher along with futures after the bids in the SPX puts returned moving it back north of the 15 level. Volatility ETF's (NYSEARCA:VXX) and 2x volatility (NASDAQ:TVIX) continue to suffer from the deep contango in the VIX futures but was somewhat muted today. In my personal opinion VXX is a money pit until March contracts roll off at this point because unless a big buyer of volatility comes in here between now and next Wednesday, these securities will more than likely continue to suffer from negative contango roll.

VIX futures are listed below

Yesterday

March VIX futures 16.95

April VIX futures 21.03

May VIX futures 23.08

Today

March VIX futures 18.00

April VIX futures 22.00

May VIX futures 24.00

I wanted to go ahead and re-post a reply I gave to a question from yesterday's sonar. The question was why did the VIX spike so hard yesterday during very specific time frames. Remember the VIX is a measurement and contrary to popular belief is NOT a tradable instrument. Tuesday saw some large VIX movements around 2:30, 3:30 and 3:40. These were attributed to large out of the money SPX put orders being pulled and then immediately put back on. SPX cash puts is truly the measure of the "spot" VIX as it relates to VIX pressure. The VIX is just like any other measurement tool like the Force Index, RSI, %K value, or insert your technical here. One of the biggest measures as it relates to "SPOT" VIX is VIX futures and out of this is out of the money puts. If there are large bids willing to pay up for out of the money puts the VIX will move violently to the upside if the bids move up to say 1.00. (Please remember this does not mean the VIX futures will move which is what moves VXX and TVIX.) Inversely if the bids get pulled and the orders are not there to support the put options then it will move down violently.

Therefore people believe volatility is cheap here. This is 100% not true unless you are talking about VIX contracts or options which expire in March. All back month VIX futures are pricing in anywhere between 150% and 200% premium to current realized volatility. Thus for these VIX contracts to move such as in the case of VXX calls or VIX calls/puts outright would require 3-5 days of 1.5-2% consistent sell-off's to move these prices. Even the front month VIX calls continue to have 80% premium built into them which makes volatility in realized form quite expensive if you are playing the VIX options directly. Before you play any one of these forms of trading ask yourself this question. If we had a stock which moved only typically only 1-2% a day and you had five days left until expiration would you buy a call or put which is pricing in a 15-18% move? If you would then let me know and I'll sell you Apple March 650 calls for 5.00 all day long.

Options Paper

Again I heard an analyst say welcome to the NBA (Nothing But Apple). Apple (NASDAQ:AAPL) has been and continues to be on an absolute tear of late, ripping to the upside. Yesterday, some large block (500 contracts or more) stepped up in AAPL, buying the AAPL 560 - 540 April put spread. Today with AAPL up another 2.3% the options were dead even today in comparison to yesterday where even with the put spread buying the call inflows were more than 8x the put inflows. Today calls and puts early on were dead even with implied volatility rising as both puts and calls seeing buying pressure. For those conspiracy theorists out there and I must admit sometimes I'm in that camp the "Max Pain" level in AAPL has risen dramatically over the past three trading days.

For those who don't know max pain is the level where option sellers have the least payout when it comes to expiration. For example we have used this in the past to determine the VIX settlement could be moved up 1-2 points in order to avoid paying 400 - 600M in option premium the day of expiration. We have also seen this in AAPL as the stock price would plummet or rise 4-5 points in just the last few minutes in order to cause those holding the long calls or puts to suffer the most pain. AAPL had a max pain number of 900M at a strike of 525 just last Thursday. This number has jumped each day as those short calls continue to cover and roll to higher strikes.

Check out where the AAPL pain calculations if the option contracts would be settled today.

AAPL Strike

March

Call Pain

Total Pain in Millions

Put Pain

505

471895

$1,198,690

726795

510

501395

$1,173,405

672010

515

541870

$1,172,540

630670

520

579360

$1,146,740

567380

525

622100

$1,135,880

513780

530

659430

$1,087,085

427655

535

729415

$1,097,985

368570

540

780865

$1,072,855

291990

545

856585

$1,076,405

219820

550

930135

$1,080,020

149885

555

1019625

$1,125,885

106260

560

1086450

$1,149,650

63200

565

1185595

$1,219,695

34100

570

1273255

$1,292,115

18860

575

1356900

$1,370,890

13990

580

1427115

$1,435,285

8170

585

1494885

$1,501,945

7060

590

1536145

$1,542,180

6035

595

1586485

$1,591,650

5165

600

1604045

$1,608,105

4060

As you can see option sellers would be crying if options expiration was today, paying out an additional $350 million-plus in premium. If those short the calls and long any type of puts have anything to say about it they want AAPL to drop around 3% between now and Friday, but recent price and options action may say otherwise.

As of the time of this writing, AAPL options traded more than 1.6 million contracts which was more than 3x average daily volume and accounted for an astounding 10% of total contracts traded today. I personally have never seen a single stock account for more than 10% of a single day's option activity but leave it to almighty AAPL to continue to amaze me.

Popular ETFs and equity names with bullish/bearish paper in terms of call/put ratios:

Calls outnumbering puts:

Iron Mountain (NYSE:IRM) 18:1

LSI Corp (NASDAQ:LSI) 16:1

Shaw Group (NYSE:SHAW) 21:1

E*Trade (NASDAQ:ETFC) 27:1

Stryker Corp (NYSE:STK) 24:1

General Growth Properties (NYSE:GGP) 909:1 (16-18 1:2 call spread bought)

Puts outnumbering calls:

El Paso (EP) 67:1

Virgin Media (NASDAQ:VMED) 36:1

Ingersoll-Rand (NYSE:IR) 24:1

Oil and Gas ETF (NYSEARCA:XOP) 15:1

ConocoPhillips (NYSE:COP) 12:1

Supervalue (NYSE:SVU) 10:1 (Large block put buyers)

DR Horton (NYSE:DHI) 6:1

Volatility Explosion

Rite Aid (NYSE:RAD) saw a bump in IV and by bump I mean a huge increase in IV moving up 31%. Today calls were bought on the ask 41% of the time on more than 10x average call volume. Today the July 2 calls were bought heavy and April 2 calls appear to be sold to make a calendar spread. This would profit greatly as RAD was around the 2.00 level at April expiration then ran to highs after that. Overall calls outnumbered puts more than 15:1 on the trading day.

Volatility Implosion

Molycorp (NYSE:MCP) has been moving higher the last three days and it appears some option traders believe this could be coming to an end. Today option players were hitting the sell button on the calls and buying additional put protection after running up more than 10% over the last few days. IV continued to drop but then recovered keeping the name somewhat flat on the day. Calls traded 41% sold on bid where puts were bought 40% on the ask which is short term bearish for this stock. March to April rolls were the majority of the action today as they re-position for the next move going into April.

As always happy trading and stay hedged.

Remember equity insurance always looks expensive until you need it.

Disclosure:

I am long APC, TBT, FAZ, X, KERX,

I am short: PBI, DB, EEM, AAPL, LYV, BSFT, YHOO.

Disclaimer: The opinions in this document are for informational and educational purposes only and should not be construed as a recommendation to buy or sell the stocks mentioned or to solicit transactions or clients. Past performance of the companies discussed may not continue and the companies may not achieve the earnings growth as predicted. The information in this document is believed to be accurate, but under no circumstances should a person act upon the information contained within. I do not recommend that anyone act upon any investment information without first consulting an investment professional as to the suitability of such investments for his or her specific situation.

Source: VIX - Options Volatility Sonar: Wednesday Recap