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After being cautious in front of a Head and Shoulders chart pattern it is time to now start positioning long on volatility. With recent action in Spot VIX and further flattening of the price curve in futures, we are approaching the time to buy volatility.

While it could spike up at any point on a bad headline or rumor, it's not yet time to back up the truck and this initial positioning should be made with the expectation of further near term weakness.

Spot VIX 6 Month Performance
(Click to enlarge)

Above is the chart showing that the Head and Shoulders is continuing to play itself out and below are some numbers of where that puts us in the main volatility products.

Current prices (Close Monday)

  • Spot VIX:16.80
  • July Futures:18.15
  • August Futures: 20.60
  • XIV: 11.97
  • VXX: 14.22
  • UVXY: 8.55
  • TVIX: 4.22

Days of Future Past

With VIX now below the midpoint of the 15-20 range we see during "crisis" times, one can easily justify the initiation of long volatility plays for a near term return to the top of the range. As with every trade we need downside targets to determine our risk so here are some estimated price targets for risk management based on further deterioration in Spot VIX.

Spot VIX: 16

  • XIV: 12.54
  • VXX: 13.54
  • UVXY: 7.74
  • TVIX: 3.82

Spot VIX 15

  • XIV: 13.25
  • VXX: 12.70
  • UVXY: 6.72
  • TVIX: 3.32

These prices are of course dependent on the current VIX futures price curve and are rough estimates at best. If we keep the same structure as current and head further down the rabbit hole in Spot VIX we should head towards these price targets.

Remember that contango and backwardation will skew any long term price targets for VIX products so these targets are really only good for the next two weeks or so. Any time after that and we will start to see the negative roll from July to August futures contracts begin to significantly skew the performance of volatility products.

Trading Places

My preferred method for trading VIX products is to short them as they naturally tend to decay over time due to the quirks of VIX futures trading. Therefore my recommended vehicle of choice is a short XIV position that should started at $12 and added to if it heads higher.

With 13.25 as our ceiling price target, putting a stop loss at 13.50 and sizing the trade accordingly should allow us to properly control our exposure to the whims of the volatility market. The specific trading plan would be to short ¼ position at 12, ¼ at 12.75 and then ½ at 13.25 if it gets there. At that point we would be fully positioned with room to go before we hit our stop loss.

You can easily substitute a long VXX or UVXY position instead but the falling knife nature of volatility products rewards those that can find shares to borrow when volatility is near the extremes.

Source: Volatility Players: Start Your Engines