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Vol Whisperer: You’re So VIXed—VIX Futures, VIX Options

October 2, 2017
Which VIX futures do VIX options follow?
Dan Saelinger

Who knew 20 years ago that volatility would become such a popular topic in market discussions? When the CBOE introduced the original VIX in 1993, it was an esoteric, “professionals-only” thing. Now we're seeing the price of the VIX on our trading platforms and TV, we’re interpreting volatility’s impact on the markets, and yes, we’re trading it.

Trading activity in the VIX suite of products—/VX futures and VIX options—has exploded in recent years. Notably, in the past couple of years, /VX futures and VIX options with weekly expirations have been introduced. And different expirations offer more flexibility and strategies for speculating on volatility.

Mix ’n’ Match

But all those /VX and VIX expirations can spell trouble if you don’t understand the relationship between them. For example, looking at VIX options, you may see that a call in a further expiration has a lower price than a call at the same strike price at a closer expiration. Or you may want to trade a synthetic covered call—buy a /VX future and sell VIX calls against it. But you have multiple expirations in /VX and VIX options. Doing mix ’n’ match with VIX products can expose you to risk you might not want to take. So how do you match up the /VX and VIX options so you can potentially avoid trouble ahead?

The short answer: when you’re looking at, or trading, VIX options in a particular expiration, you need to consider trading the /VX future in the same expiration. So, you match up September VIX options with the September /VX future. Or August weekly VIX options with the August weekly /VX future with the same number of days to expiration (DTE).

Make sure the VIX options have the same number of DTE as the /VX futures. This is important. The VIX options in a particular expiration are “priced” off their corresponding /VX future, and not the VIX index itself—because you can’t trade the VIX. You need to hedge with a /VX future. And /VX futures in different expirations move up and down independent of each other, according to the market’s expectation of what the VIX will be on those future dates.

There’s no arbitrage relationship that keeps /VX futures in a specific financial relationship to each other. This is why VIX options in further expirations can have lower prices than VIX options in closer expirations. The /VX futures in those expirations are different, and the VIX options are priced off those different futures’ prices. Also, if you trade VIX options in one expiration against /VX futures in another, both those positions can lose money if the /VX future that’s pricing the VIX options you’re trading moves higher or lower than the /VX future you’re trading.

Say you sell 10 VIX calls in the Sep expiration, you buy a /VX future in the Dec expiration, and you think that’s a hedged position. It’s not. It’s possible for the Sep /VX future that’s pricing the Sep VIX options to spike higher and cause a loss on the short VIX call position, while the Dec /VX future may drop, causing a loss on the long Dec /VX future position.

But What If …

Wait, one more thing. On the thinkorswim® platform from TD Ameritrade, all VIX options have one day less to expiration than the futures. Yup, they don’t match. The /VX futures will  show one more DTE than the VIX options, and here’s why.

The last trading time for a /VX futures contract is 8:00 a.m. Central on the contract’s Wednesday settlement date. The last trading time for a VIX option is at 3:00 p.m. Central on the Tuesday the day before the Wednesday option’s settlement. So, the /VX futures, and VIX options, settle on a Wednesday. But the VIX options stop trading one day before. That’s why on the thinkorswim platform, the September /VX, for example, will show one more trading day than the September VIX options. But the Sep VIX options are still priced off of, and hedged by, the Sep /VX future.

So, while you have many choices to trade volatility, it pays to do your homework. Know how volatility products are priced, how they move, and how they trend.

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