The Cheapest VIX of the Year?

It could be the perfect seasonal storm for sluggish options

Jun 24, 2015 at 8:01 AM
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You know that long-awaited CBOE Volatility Index (VIX) pop, the one everyone is always anticipating? It looks like we may have to keep anticipating, at least for a couple more weeks. 

And no, that has nothing to do with the never-ending Greek drama, or any of the next drivers of market volatility that Michael Santoli lays out here. Rather, it's just the calendar. We have just entered the seasonally worst time of year for implied volatility (IV). 

Way back in 2008, I ran numbers for my book (which oddly has yet to produce a movie deal). At the time, weekly options were but a blip on some MBA's screen, and options essentially traded almost solely on the month cycles. And as such, there were volatility tendencies related to the time until expiration. Nickel Version: The earlier in the monthly cycle (i.e., the further away from expiration), the more sluggish the options. Further, different monthly cycles had different tendencies -- something that still exists today. And finally, imminent holiday breaks tended to depress volatility. 

Throw it all together, and we have the perfect seasonal storm for sluggish options. At least, we did back in 2008. 

I divided each expiration cycle into two "halves." The first "half" was either the first two weeks of a four-week cycle, or the first three weeks of a five-week cycle (hey, I probably said there would be no math). And then I looked at mean and median VIX levels of each half-cycle. Since I used cycles and not calendar months, the first "half" of each cycle is mostly in the calendar month prior (i.e., by my 2008 definition, we're now in the first half of July). 

Long story short, of the 24 half-cycles of the year, the first half of July (now) had a mean VIX of 17.04 and a median VIX of 16.18. Both those readings were the lowest of any half-cycle. That is to say, as of 2008, the first 2-3 weeks of the July cycle -- basically the time between June expiration and Independence Day -- saw the cheapest VIX of the year. 

Nothing in recent years has changed that. The importance of the monthly expiration day has waned, but the calendar really hasn't. We saw multi-year VIX lows in 2014, right before the July 4 weekend. There's just typically not much going on that moves markets this time of year, and traders tend to worry more about paying extra time decay than they worry about a big market gap.

That's not to say VIX absolutely, positively won't pop in the next couple of weeks. Just that it's an improbable event. 

And actually, it's not a terrible time to start buying actual options. I also looked at the relationship of median IV to median realized volatility (RV) across the 12 monthly cycles, and the ratio in July was about 1.2. Yes, that means options are "overpriced," but they're ALWAYS overpriced vs. RV. In fact, they were less overpriced in July than in any other cycle. So, even though IV is unlikely to pop in our immediate future, options are probably cheap enough to pay for actual RV.

Yada yada yada… If you still think that VIX pop is coming around the corner, wait until next week and buy some actual good old-fashioned options. 

Disclaimer: Mr. Warner's opinions expressed above do not necessarily represent the views of Schaeffer's Investment Research.


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