Thursday, September 22, 2011

SPY - Falling Market, Popping Vol Opens Downside Skew

SPY is trading $113.14, down 3.0% with IV30™ up 10.2% as of ~11:20am EST. The LIVEVOL® Pro Summary is below.


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With the market catapulting down the last two days, vol has spiked 24%. And this is the S&P 500, not a bio-tech stock or a Greek bank (sorry for the cheap shot Greece). It’s that vol spike that has caught my attention. Let’s look to the Charts Tab, below. The top portion is the stock price, the bottom is the vol (IV30™- red vs HV20 - blue vs HV180 - pink).

I’ve highlighted the price drop and vol spike of late. It’s incredible how volatile SPY has been when looking at the stock chart. The HV20 hit as high as 49.69 and HV10 hit as high as 61.77. In English, at the peak of late, over a ten trading day period (two weeks),the SPY was moving at an annualized realized vol of over 60%. Whoa… Makes IV30™ of 35 feel cheap? Nah…

Let’s turn to the Skew Tab.

When the market goes down big, we can often find a vol difference that opens up between the front expiration and the back with respect to the downside puts. The threat (read: fear) of a cataclysmic decline pushes that tail risk up and therefore the front expiration downside puts tend to be sticky in price. That stickiness can only be expressed as increased vol. We are seeing that now – check out the vol diff between the Sep 23 (Weekly) puts and the Oct monthlies.

With a vol diff opening up, a short-term trade to sell it and cover with the back becomes a reasonable trade to assess. Let’s turn to the Options Tab for completeness.

I wrote about this one for (OptionsProfits), so no specific trade analysis here. I do like the idea of this type of trade because of the vol diff. Having said that, I don’t like the trade for another reason; a simple one really. The fear of the “cataclysm” isn’t subsiding. If anything, it feels like the market is bracing for it as VIX has remained above 30 since 8-4-2011, even during times of market rebound. That means bad news may be digested in the long-run quite well, but in the short-run, it might be swallowed whole and push the markets down. And since we’re dealing with options that expire in one and half days, we’re definitely looking at the short-run.

This is trade analysis, not a recommendation.

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