The volatility of volatility, or VVIX, could be helpful to add to your watchlist. Learn how it measures the difference between the VVIX and VIX.
Markets are demanding and every tool helps. The good news for option traders? Smart folks keep inventing them. Traders have traditionally relied on the SPX. Then along came “the fear gauge,” or the Cboe Volatility Index (VIX), which gives a theoretical estimate of the SPX’s future volatility, based on SPX options. To help option traders take an even deeper analytic dive, in 2012 the Cboe introduced VVIX, which in simple lingo is “the VIX of the VIX.”
Just as VIX is calculated from SPX options, VVIX is calculated from VIX options. The formula is basically the same. It’s a complex weighting of the out-of-the-money (OTM) options to create a metric for the market’s estimation of what the index’s volatility might be (SPX, in the case of VIX, and VIX, in the case of VVIX) in the following 30 days.
VVIX, then, can indicate when VIX isn’t very volatile, and so isn’t foreseeing much volatility in SPX. This can happen when VIX is relatively low—under or around 15, for example. Alternatively, a high VVIX suggests VIX might be more volatile in the future, which in turn can indicate a market belief that SPX might also be more volatile.
Over the past year, VVIX has ranged from approximately 95 to 172, hovering between about 105 and 135 most of the time. There are a couple things to note. The first is that spikes in VVIX occurred around the times there were spikes in VIX. And when the VIX is relatively low and not moving much, it’s the same for VVIX. The second is that just as VIX is more volatile than the SPX it’s based on, VVIX can be more volatile than the VIX it’s based on. So, potential opportunities suggested by a high VVIX, for instance, might be fleeting if VVIX drops back down.
You can’t trade VVIX directly because it’s just an index with no options or even futures contracts. But just as VIX can give an indication about how to create strategies in SPX options, VVIX can indicate how to create strategies in VIX options. A low VVIX indicates that VIX options may be relatively inexpensive. If the low VVIX is accompanied by a relatively low VIX, and you’re bullish on VIX, a long call or a long call vertical might be bullish strategies to consider. With low VVIX, the premiums of VIX options are relatively low too, so debit strategies might be more attractive.
If VVIX is high, VIX premiums can also be relatively high. If you’re bullish on VIX in that scenario, a short put or short put vertical might be bullish strategies to consider because of the higher credits possible with the higher volatility in VIX options.
You might try adding VVIX to your watchlist on the thinkorswim® trading platform. If you put it next to VIX and SPX, you can see how the three of them move relative to each other in live trading. And now that you understand what VVIX is, it might become a valuable part of your trade-identification toolbox.