Holy VIX!

There are two points that Adam Warner makes here is the Daily Options Report, if I understand correctly. One is that the stretch to the Fourth of July is usually a quiet time and so implied volatility is low, a market expectation built into the VIX calculation. The other is that the longer dated VIX is a “better” measure of implied vol now. Using the 90 day measure, VXV, and the rule of thumb that it moves half as much as the short term 30 day measure he discounts Monday’s increase in implied volatility. This doesn’t make sense to me. The 90 day measure tells you how much traders think the current volatility will feed into the market in the fall. They could discount current moves by whatever they think makes sense. That it is a momentary blip and not move at all, or say this is the start of something big and incorporate the entire move. Both have happened.


So no sooner do I say the VIX will stay heavy for a couple weeks, lo and behold it explodes.

Not sure I said that exactly, but let me clarify the point.

The VIX will likely understate “real” implied volatility for the next couple weeks. Remember the VIX is a statistical calculation designed to give an estimate of the volatility of an SPX ATM option with 30 days until expiration. But not all time is created equal. The stretch from June expiration through the July 4th weekend is about the worst “time” to own. It encompasses 16 calender days this year, so this over half the time that VIX of last Friday covered is a seasonally low volume and low volatility stretch. Traders tend to lower bids ahead of it not so much as anticipation of lower volatility estimates going forward, rather just an acknowledgment that the time value of a July option right here right now is less than the calendar would indicate. Those lowered bids have the effect of making any volatility calculation a bit low.

But of course, markets move. And this market moved way lower Monday. And the VIX shot up. Does this make this whole point wrong? Not really. My suggestion is more that the VIX understates “real” volatility. And that “real” volatility picked up notably on Monday.

Longer dated volatility measures better express volatility right now. Such as VXV which we discussed yesterday (90 day VIX) and VXX (the VIX ETN). VXX is very new, but we (well, Bill Luby and I) suspect it will track an average of 40-50% of the VIX move. It lifted 4% on Monday, which implies “real” VIX lifted something like 8-10%, less than the 11.5% actual VIX lift, but still a pretty impressive move.