Published on Jul 20, 2015 at 10:20 AM
Updated on Mar 19, 2021 at 7:15 AM
  • VIX and Volatility

With the benefit of hindsight, you'd know that the first six-plus months of 2015 would morph into the Golden Age of Churn. But let's say you knew that in advance of this year. I'm not talking about having the equivalent of Biff Tannen's Almanac for stock prices. Rather, what basic strategy would you employ knowing it was a year of unsustainable moves in both directions? 

You would certainly sell straddles and strangles, and you wouldn't bother to aggressively hedge with the underlying stock(s). You would also likely fade the stock moves themselves and flip like crazy. 

You would stay away from volatility exchange-traded funds (ETFs), though that's good advice anyways. But what about Barclays S&P VEQTOR ETN (VQT)?

"The Barclays ETN+ S&P VEQTOR ETN tracks an index that dynamically allocates exposure between equity, volatility and cash based on market conditions.

... VQT's dynamic strategy aims to provide maximum equity exposure, via the S&P 500 in good times, and hedge its equity exposure in periods of high volatility. The underlying index adjusts its allocation to the S&P 500 and the S&P 500 VIX Futures Index based on 1-month realized volatility and forward implied volatility. In addition, the index moves to a full nominal cash allocation if it falls by more than 2% over 5 consecutive trading days."  

You might be tempted to own it. I mean, you can ride the S&P 500 Index (SPX) between Greek Crises, and then hedge with some CBOE Volatility Index (VIX) products. And then you can theoretically go to all cash if it really gets ugly. Sounds promising.

The reality in 2015? Not so good. Here's VQT vs. the SPX this year:

150720Warner

It tracked well for a couple of months, than has just fallen off a relative cliff.

As I think about it, some of it makes sense. Every little volatility breakout has turned into a fake-out. Perhaps VQT has gotten a little whipsawed. But I'm not sure why it's done this relatively poorly. There just haven't even been that many fake breakouts. And the biggest ones took place in early January and just a few weeks ago. VQT seemed to handle the early January case relatively well; it didn't underperform at all and that's actually very good performance. You got some protection at no cost of "alpha." 

As to July, well, I suppose that underperformance makes some sense. SPX turned around and VQT likely went into VIX products and now can't quite catch up. 

What has me baffled is that middle part. Why did VQT do so badly in March? Volatility was meh. If it went into full hedge, then it needs to change its parameters. That wasn't a scare that required sustained protection.

All of which leads me to a similar point I always make about a product like this. It sounds interesting and great in theory. I mean auto-hedging, what could be better? But in reality, it's just a strategy, and it doesn't require much to replicate and tweak on your own. VQT will save you from big hits. But just simply going to cash when the S&P goes below the 200-day moving average will cost you some small money here and there but will save you from big hits too. I'm not recommending that, just pointing it out as an easy plan. 

Disclaimer: Mr. Warner's opinions expressed above do not necessarily represent the views of Schaeffer's Investment Research.
Published on Jul 23, 2015 at 9:49 AM
Updated on Mar 19, 2021 at 7:15 AM
  • VIX and Volatility

We saw a kind of ugly open yesterday, after a dip on Tuesday, further supporting the theory that we are never going to break out of this S&P 500 Index (SPX) range this year. Thank you, Apple Inc. (NASDAQ:AAPL).

But hey, there's some good news if you like volatility products and like the ability to trade vol after hours. We now have weekly CBOE Volatility Index (VIX) futures! From CBOE Options Hub:

"CFE plans to list futures with weekly expirations on the CBOE Volatility Index®(VIX) beginning at 3:30 P.M. CT on Wednesday July 22 (this is the beginning  of the July 23 trading day), subject to regulatory review. VIX Weeklys options at CBOE are expected to follow on a later date, also subject to regulatory approval." 

Because hey, why not? I mean that seriously. Why not list everything you can?

One of the complaints about vol products is that they don't actually track VIX closely enough. But you can solve that to some extent by either going larger in quantity or shorter in duration. But alas, that "shorter in duration" option only exists later in the monthly cycle. At least, until today. 

CBOE has an interesting chart on the subject. Here's the beta of VIX futures expressed by days until expiration:

150723Warner

 

The beta for 33 days is 0.39, but as you can see it rises exponentially as expiration nears. It gets to about 0.5-0.6 with a week to go, and peaks at 0.79 with a day to go. 

And that leads me to a question that sounds like a joke, but is totally serious: Why don't we list 1-day VIX futures?

There's kind of a holy grail out there of trying to find the best way to trade "spot" VIX. Monthly VIX futures came first, but the reality is they just let you bet on where traders expect to price 30-day implied volatility from some date "X" days in the future. Plus, they're not actually a stock, so some are precluded from using them. 

Enter iPath S&P 500 VIX Short-Term Futures ETN (VXX), a stock that sounded like VIX! Unfortunately, it's just a 30-day future disguised as a stock and… Well, you know the rest. And remember AccuShares Spot CBOE VIX Fund Up Shares (VXUP) and AccuShares Spot CBOE VIX Fund Down Shares (VXDN)? Those haven't worked out either, unless you want More VXX!

So enter shorter-term futures. They're not exactly VIX, either, for the same reason longer-dated futures are not actually VIX. Plus, they're futures and not stocks. But as the chart shows, they will track exponentially closer, which at the end of the day is what the masses want.

What's the harm in listing VIX futures every couple of days? It would afford the chance to really tailor the VIX bets at all times. And frankly, that's how we should all "trade" VIX. Timing is everything. We've heard about how low VIX has sat for pretty much forever -- or at least five years. Lots of money is lost trying to catch the "inevitable" longer-term VIX rally that never comes; maybe we can emphasize shorter-term VIX bets? And what better way to do that than always have really short-term VIX paper out there?

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

Published on Jul 24, 2015 at 9:43 AM
Updated on Mar 19, 2021 at 7:15 AM
  • VIX and Volatility

The only thing we have to fear is fear itself -- or an utterly range-bound market. We've pretty much established the SPDR S&P 500 ETF (SPY) is never moving above 213 or below 205 ever again. Yet, the Fear is still there.  Here's how CNN's Fear and Greed Index looked yesterday morning:

150724Warner1

There are some oddities with this. To start, our own local Fear Index, the CBOE Volatility Index (VIX), is flashing a big fat nothing. In fact, I'd call it close to complacency, though on the CNN scale it's "Neutral." Their put/call number says "Neutral" as well.

What's more, the market itself isn't doing much of anything particularly scary. The Nasdaq Composite (COMP) just hit new highs. Apple Inc. (NASDAQ:AAPL) in and of itself might have knocked us for a loop just because it's so large, but that panic fizzled before it even really started.

Yet we're bordering on Extreme Fear, and we're getting more so this week. From CNN:

150724Warner2

So what's knocking us down? Well, let's see… There's junk bond demand. The yield premium 205 bps as per CNN, which they say is on the high end of the last couple of years. It's also diverged from VIX in a noteworthy way, per Bloomberg. 

There's also some breadth measures, and those are starting to get some ink lately. According to CNN: 

"The McClellan Volume Summation Index measures advancing and declining volume on the NYSE. During the last month, approximately 6.25% more of each day's volume has traded in declining issues than in advancing issues, pushing this indicator towards the lower end of its range for the last two years."

And: 

"The number of stocks hitting 52-week lows exceeds the number hitting highs and is at the lower end of its range, indicating extreme fear." 

The "generals" do remain quite strong, but the army keeps lagging. Should we worry?

Well, to some extent, yes. It's never good to see a narrow rally. But on the other hand, the last time these measures looked so weak was October of last year. I believe our worries then were cascading oil prices and future Fed rate hikes. It's kind of similar to now, except that the market overall was doing poorly, whereas now we're flatlining. And last time turned into a pretty good buying opportunity.

Will history repeat itself? It's a sample size of 1, so I wouldn't bet the ranch on it, I'd just say that pesky bad breadth doesn't have to stay a permanent condition. 

On the other hand, that junk bond divergence could prove worrisome. There's some thought that credit players now are the biggest users of VIX products as hedges, so that could all resolve with a move into the tradeable VIX complex.

Disclaimer: Mr. Warner's opinions expressed above do not necessarily represent the views of Schaeffer's Investment Research.
Published on Jul 27, 2015 at 9:39 AM
Updated on Mar 19, 2021 at 7:15 AM
  • VIX and Volatility

Speaking of Fear …

What he said. OK, seriously, I'm not a big fan of making observational judgements based on the absolute value of CBOE Volatility Index (VIX) and where I think it "should" print. But right here, right now? Yeah, why isn't VIX higher?

1. Ugly market?

Check (sort of). We dropped 1%-ish on Friday, taking all the way back to levels not seen since … about two weeks ago. So let's call it ugly, but not catastrophic. 

2. Cheap vs. realized volatility? 

Not really true. Ten-day realized volatility in S&P 500 Index (SPX) is about 10 right now. When VIX is in this range (which seems like always), we typically see about a 4-point premium of implied over realized. That's close to what we see now. VIX is only slightly low by this metric, and given it's inexact, we can call it a rounding error. 

3. Cheap vs. expected news flow? 

This seems accurate. Bad news out of China? Check. Not only today's sell-off, but this, from MarketWatch:

"Taylor Swift is the latest to take on counterfeiting in China.

As the American pop star's popularity in China has exploded, so has a huge market of unauthorized Taylor Swift products, with e-commerce peddlers selling everything from fake perfume to pirated autographed guitars." 

Maybe we can get past that one, but perhaps more importantly, this, from CNBC:

"'I think the market's very much concerned about the commodity (decline),' said John Lonski, chief economist at Moody's. 'The contraction in China manufacturing activity is gaining momentum and the credit market has yet to signal that rates are not about to go higher.'"

Plunging oil prices, worries about China and rate hikes? Sounds like a greatest hits of "Scary Market News '14-'15." At least Greece is finally behind us, per Yahoo! Finance: 

"Talks between Greece and its international creditors over a new bailout package will be delayed by a couple of days because of organizational issues, a finance ministry official said on Saturday." 

OK, guess that's not done yet either. All in all, it's kind of bizarre dynamic. We're simultaneously obsessed enough with the same few recurring global stories that the market can't go higher, yet not so concerned with them that we bid options prices up all that much. 

We really need to break out of our 2015 range. I was hoping for an upside blast, but maybe we really do need some sort of shakeout before we can rally for real. 

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

Published on Jul 28, 2015 at 8:38 AM
Updated on Mar 19, 2021 at 7:15 AM
  • VIX and Volatility

As we just noted, the CBOE Volatility Index (VIX) is cheap in absolute value. But there's another side to that coin.

Yes, VIX is high vs. itself. By "itself," I mean its 10-day simple moving average (SMA). VIX closed about 25% above its 10-day SMA, and we all know what that means: more tables! Or at least the same table, only updated.

150728Warner

This "rule" won't keep working forever. We're six years into a strong market, and I conveniently only run this table back six years. If I went back to 2008, you'd see some absolute disasters. Overbought VIX got more overbought … then again, basically every contra indicator failed. If I went back to the beginning of VIX time, you'd see more of the same as what you see here. 

It's generally correct to get bullish when VIX gets overbought. In fact, before 2008, and absolutely speaking before 2001, VIX was pretty universally considered a mean-reverting statistic. It was just another sign of an extended move. What the accidents of 2000 and 2008 taught us was that moves can often get extended, and we "crash" off already-oversold conditions. 

In all fairness, though, no one had heard of the VIX until after 2000. It wasn't anything at all magical; it was just something up on the Quotron (look up Quotron, kids!) that we all ignored. It wasn't tough to know what was happening in volatility when all you were doing all day was pricing options vs. public order flow.

I don't really believe an implosion is about to happen now. I mean, anything's possible, but my guess is that if we get ugly, it's more 2011-style ugly. 

If you want a scary parallel, check out those July 29, 2011, returns. Ugly, ugly, ugly. But it's not a perfect match. VIX was in the mid-20s at the time … and I'm sure someone was saying it should have been much higher. And hey, they were right for a change.

As to VIX itself, this is an unusually low absolute level for it to get overbought. In fact, this would mark the second-lowest absolute level amidst a 20% violation since 2009. The lowest was last July, when VIX got overbought at a mere 14.54. And that wasn't a real good signal at all. We basically caught our breath and got more overbought two weeks later. Returns were flat one month out, and actually weak three months out. 

We're kind of in the middle of these two scenarios. VIX is absolutely low, but relatively high (if that makes any sense). And clearly the news flow is quite bad. Greece was overcovered, but a crash in China is obviously not something to take lightly. There are no Chexits and Cheferendums out there to make fun of. 

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

Published on Jul 30, 2015 at 9:28 AM
Updated on Mar 19, 2021 at 7:15 AM
  • VIX and Volatility
The CBOE Volatility Index (VIX) got overbought and immediately came back down, and all I got was this lousy T-shirt. What should I do now?

Glad you asked. CNBC has the answer:

"But as the VIX tends to see massive swings higher and lower, buying it outright could prove dangerous, according to options expert Andrew Keene.

'I don't want to outright get long the VIX because I think [in the long run] the market can move higher and the VIX could move lower,' said the founder of Keene on the Market.

Instead, for those worried about a stock market correction, Keene recommended buying VIX call options as a means for protection."

Well, it's not the most radical idea I've ever heard, but it's also not the worst idea right now, either ... and I can't believe I'm typing that, as VIX calls are perpetually overpriced. So, let me state it another way: VIX calls are less overpriced than I would expect here.

Here's the CBOE VVIX Index (VVIX):

150730warner

What's VVIX, you ask? It's the VIX methodology applied to VIX options. It shot up to 117 on the late-June VIX blast, then again to 100 just a few days ago. It's now back in the low 80s, modestly subnormal for 2015. In English, that means VIX options prices are on the lower end of normal already, a mere two days after the culmination of a pretty ugly market week.

And VIX options are really only about out-of-the-money (OOTM) VIX calls; thus, it's fair to infer that VIX call prices have gotten hit pretty hard this week, between the absolute move in VIX and the drop in VIX volatility.

Now, it's important to note that much of this is self-fulfilling. The VIX options board has a steep positive skew to it, thanks to that perpetual VIX OOTM call bid. Thus, VIX itself dropping causes the VVIX calculator to assign higher weight to lower VIX strikes -- and those lower VIX strikes carry lower implied volatility.

But, that same lowering of VIX, of course, lowers the absolute prices of all the calls. So it's tough to make the case that it's not a better time to buy them now than it was a few days ago.

Long story short, those VIX calls always overprice the probability of a VIX-plosion, so in a sense it's never right to own them. But the reality is that the next guy's going to overpay for them, too. And the drop this week is a bit steeper than normal. I'd rather fade into this than chase, given the nature of the churning markets of 2015.

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


Published on Aug 3, 2015 at 9:37 AM
Updated on Mar 19, 2021 at 7:15 AM
  • VIX and Volatility

Our old friend iPath S&P 500 VIX Short-Term Futures ETN (VXX) hit new all-time lows again on Friday. I know, I know -- shocking. 

But hey, I'm not here to bury VXX (again). I'm not really here to praise it, either. I'm just going to attempt some objectivity on the subject. 

VXX first listed 6.5 years ago at a split-adjusted price of $6,400. It's now $16. I'll spare you the math on that one. 

It has a less evil -- and very much less publicized -- cousin, CBOE 3-Month Volatility Index (VXV). The difference is in the duration, as it proxies a constant 30-day VIX future. The iPath S&P 500 VIX Mid-Term Futures ETN (VXZ) proxies a 4-7 month VIX future. The term structure is generally much closer to flat about that far out, perhaps very slightly upwards -sloping. While VXX loses value literally every nanosecond thanks to the contango, it's less absolute in VXZ. 

And as such, VXZ has done way better -- or, more accurately, less badly. VXZ closed at $10.39 on Friday, vs. a listing price of $100 6.5 years ago. Thus it hasn't even dropped 90%! Wahoo! 

So, does that make VXZ a better product than VXX? I would suggest not.

I mean, obviously if you want to buy and hold something, VXZ costs you less money. But I hope we know now to NEVER buy and hold a volatility ETF. 

Rather, let's go on the assumption we will only use these pups as trading vehicles and only hold them in the short term. And our goal is to either hedge against a volatility spike, or speculate on one. If that's the case, you should just use VXX for the somewhat intuitive reason that a shorter-term vehicle tracks short-term moves better.

Since inception, day-over-day VXX tracks about 46% of the day-over-day VIX move. In other words, if VIX popped 10% today, you'd get a 4.6% pop in VXX, on average. 

What's more, the relationship is fairly consistent over time. Here's how a rolling 20-day VXX Chg to VIX Chg relationship looks since the beginning of VXX time.

150803Warner1 

It dipped down to 20% midway last year for no apparent reason. But by and large it spends almost the entirety of the time tracking between 30% and 60% of the VIX move. 

How about VXZ?  It tracks about 20% of the VIX move. The graph looks like this:

150803Warner2

 

Thus, even though VXZ loses value less rapidly, you'd have to buy maybe 2.5x as much VXZ to track VIX just as effectively.  And yes, I know this is all basically a visual representation of beta. 

If you want to play longer term, then yes, use VXZ. But you really shouldn't play any of these with any duration; they're still going to drift in value and those extra shares you need to own will end up costing. 

If you're playing short term, VXX will not kill your portfolio. Just do the sizing right and DON'T hold it. 

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

Published on Aug 6, 2015 at 6:46 AM
Updated on Mar 19, 2021 at 7:15 AM
  • VIX and Volatility
  • By the Numbers

I'm kind of not here this week; many thanks for keeping everything kind of where I left it. By the way, I'm shocked (shocked!) that we've spent a few days churning to nowhere. 

If anyone ever asks you "Where's the market going to be 'X' days from now?", a safe answer is "Right about where you see it now … Oh, and the iPath S&P 500 VIX Short-Term Futures ETN (VXX) will make new all-time lows." 

Here are a couple of random thoughts until we meet again next week.

First I bring you Vanguard Group founder John Bogle and his never-ending quest to get everyone to Stop Trading! From MarketWatch:

"An astonishing $32 trillion in securities changes hands every year with no net positive impact for investors, charges Vanguard Group Founder John Bogle. 

Meanwhile, corporate finance -- the reason Wall Street exists -- is just a tiny slice of the total business. The nation's big investment banks probably could work for less than a week and take the rest of the year off with no real effect on the economy. 

'The job of finance is to provide capital to companies. We do it to the tune of $250 billion a year in IPOs and secondary offerings,' Bogle told Time in an interview.

'What else do we do? We encourage investors to trade about $32 trillion a year. So the way I calculate it, 99% of what we do in this industry is people trading with one another, with a gain only to the middleman. It's a waste of resources.'" 

That's an eye-popping number, $32 trillion. I assume it's correct; I have no idea. But that's really misleading. 

In 2015, a very large chunk of that is Machine A trading with Machine B at very minuscule transaction cost. Of that $32 trillion, what percent really goes to a middleman -- 0.1%? Or 0.01%? I'm not real sure, but in this day and age, it's not enormous. Relatively few dollars are traded in a public Schwab account. 

On the other hand, I don't really disagree with his whole premise -- I just don't believe it requires sensational numbers that really just mislead. How about just pointing out that scant few can outperform an indexing approach over time?

OK, in all fairness, he does usually do that, and it's here, too -- it's just buried way below the lead.  So maybe he just wants a more emphatic way to make his point. Unfortunately, he's still not the best party in the room to make the point, considering his name is synonymous with Vanguard and their 10,000 index products.

Speaking of misleading numbers … Did you ever go to a baseball game and see the batter up and the scoreboard tells you he's batting, like, .350 in his last eight games, or has gotten hits in 22 of his last 28 games? Something like that?

I know it's a nonsense point, but it always drives me nuts. So I wanted to have a little fun with a Poisson calculator (and yes, that's not something that's all that fun). 

Anyways, the first part is kind of obvious. If you let anyone select endpoints, they can probably prove anything, be it their stock-picking prowess or their amazing ability to pick football games (eight winners in the last 11 picks, amazing! just don't look at the 30 picks before that). Not to mention there's some survivorship bias thrown in. The guy in a 2-for-38 slump probably isn't in the lineup -- or on the team, for matter. 

And the second random thought? Well, that's really fun with numbers. I'll use New York Yankee Jacoby Ellsbury as an example. He's batting .283 and gets about four ABs per game. What are the odds he gets at least one hit in a given game? 

Would you believe 68%? Sounds high, but throw it in a Poisson calculator and that's what you get. Even a .250 hitter will get at least a hit in about 63% of all games. 

So, basically, in any random 30-game sample, a good-but-not-great batting average guy like Ellsbury, who is near the top of the order and doesn't get pinch hit for, will get hits in about 21 or 22 of those games. If he has hits in 25 of them, he's really only slightly hot. 

And that concludes our segment of Fun With Numbers. Now, enjoy the game!

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

Published on Aug 10, 2015 at 9:09 AM
Updated on Mar 19, 2021 at 7:15 AM
  • VIX and Volatility

Another week, another churn with a sour ending, and another mediocre CBOE Volatility Index (VIX). I will say this, though -- it's incredibly fairly valued for this backdrop. Ten-day realized volatility in the S&P 500 Index (SPX) is in the low 10s. VIX typically sees a four-point premium to that, thanks to the open-ended nature of volatility pops, and the fact that the entire world wants to either protect against a downside market move or speculate on one.

VIX is in the mid-13s, which I suppose is slightly cheap on that "metric," but it's close enough -- and "typical" is inexact enough that I'll say it's very fair. Our good friend the iPath S&P 500 VIX Short-Term Futures ETN (VXX) did its usual VXX thing last week. Despite a market that dipped about 1%, VXX did very little. And, of course, it hit both all-time intraday (15.48) and all-time closing (15.74) lows on Wednesday.

But again, I'm not here to torture VXX for the eleventy-billionth time, I'm here to praise it ... for (I think) the second time. The more I focus on the short term, the more I say it's possible to use this pup without getting too badly burnt. Last week we looked at how VXX correlated and traded vs. VIX. This week we're going to look at VXX vs. the SPDR S&P 500 ETF (SPY).

Since the start of VXX time, it has a negative 0.80 correlation with SPY, and that makes some sense. That's because it's about the same negative correlation as VIX vs. SPY. But that's just the correlation of a one-day move. What if we look at how VXX does on different time frames?

Well, I did, and it's not terrible. If you look at three-day moves, it has about a negative 0.78 correlation. Go to one week, and it's negative 0.75, and over two weeks it's negative 0.71. It obviously trends down, but even out two weeks, VXX is hardly a disaster. Of course, if we keep going, it gets worse and worse, mainly because VXX itself gets worse and worse. In the short term, though, it's clearly possible to accomplish something.

So, how much VXX should we use to hedge? Well, over the course of forever, I come up with a day-over-day "beta" of about negative 2.77. What's interesting is that this number doesn't move a lot if I spread out the time frame like I did with correlations. Over three days, it's negative 2.8, and over a week it's negative 2.74.

810Warn4

So, if your goal is to hedge market moves with a volatility exchange-traded fund (ETF), and your time frame is on the short side, VXX can really work! Use about a 20-25% dollar amount ratio and don't hold it for very long. And laugh at so-called "experts" like me who would advise against VXX ownership!

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

Published on Aug 11, 2015 at 9:44 AM
Updated on Mar 19, 2021 at 7:15 AM
  • VIX and Volatility

Tired of worrying about how those algo bots are ruling the markets and ruining the trading business? Well, apparently there's a new way to battle them. If you can't beat them, join them. This, from The Wall Street Journal:

"DIY's newest frontier is algorithmic trading. Spurred on by their own curiosity and coached by hobbyist groups and online courses, thousands of day-trading tinkerers are writing up their own trading software and turning it loose on the markets."

"... Interactive Brokers Group Inc. actively solicits at-home algorithmic traders with services to support their transactions. YouTube videos from traders and companies explaining the basics have tens of thousands of views. More than 170,000 people enrolled in a popular online course, 'Computational Investing,' taught by Georgia Institute of Technology professor Tucker Balch. Only about 5% completed it, but at an algorithmic trading event in New York in April, three people asked him for his autograph."

Don't have the time or the capacity to learn coding? There's now even trading platforms that let you simply come up with the strategy, and they'll unleash the bot for you. On one hand, I think it's awesome. It's always nice to see the little guy level the playing field with the big shots.

On the other hand, it's a bit of a false leveling. It's been a while since merely having the ability to trade so rapidly has produced automatic profits. In fact, it's debatable that was ever the case. Rather, it's about the speed of your access -- remember the whole co-location issue? -- and about the quality of the algorithm itself.

I don't doubt that some of the DIY folk will create excellent algorithms. But most won't, or at least won't create algos that will "beat" the professionals with their bigger money and faster access. But, at the end of the day, it's going to play out like trading in general plays out.

A small percentage of people win at it, and some, of course, do very well. Most do not, however, and they will lose some or all of their money and then walk away. It's always tough to gauge what percent of traders earn money, in that there's a total case of Survivor Bias going on. If there's such a thing as Trading nowadays, it would probably contain a good share of successful traders, but it doesn't accurately measure the odds of success. That's because no one's including the guys and gals that have walked out the door over the course of time.

The DIY algo game will follow the same course. Be prepared to read stories about a small minority that create successful algos and mint coin literally in their sleep. And hey, if you can figure it out, kudos. If you have a trading strategy that works well, it should only work better in algo form, I'd think. I'm certainly tempted to learn more about this. Just don't expect stories about the many that give this a shot one way or another and don't make it to the other side.

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

Published on Aug 12, 2015 at 9:20 AM
Updated on Mar 19, 2021 at 7:15 AM
  • VIX and Volatility

Stop me if you think you've heard this one before, but… CBOE Volatility Index (VIX) options traders are showing signs of market nervousness. This, from Bloomberg:

"Speculators' appetite for protection from stock-market tempests has reached the highest in nine years. 

Options predicting a rise in the Chicago Board Options Exchange Volatility Index are the most expensive since 2006 relative to those betting on a drop. With gains narrowing, investors are hedging through calls on the VIX, which usually rises as the Standard & Poor's 500 Index falls.

… Last week, options betting on a 10 percent rise in the VIX cost 19.1 points more than puts with strike prices 10 percent below the VIX's level, three-month data compiled by Bloomberg show. That's the widest spread since July 2006." 

In other words, the skew in VIX has soared. Now as we know, there's always a huge volume and pricing bias in favor of VIX out-of-the-money (OTM) calls here. Everyone wants to either hedge against the next market explosion or speculate on it. Not to mention there's thought the biggest players here are playing vs. CDO-CDS type instruments. So there's a built-in bid at all times. The difference now is that that bid has hit levels not seen since 2006.

I'm sympathetic in the sense that the market is just awful. I mean, I realize it's not 2008-type awful, or even remotely close. But for a market that's still actually up on the year, it's just frustrating beyond belief. 

No rally follows through. We discount news one day only to obsess over it the next day.  Breadth is bad, which would certainly suggest that individual investments lag the overall market. The index range never ends, but it sure feels like when it finally does, it will end with a downside violation. 

So yeah, I get the desire to play for a volatility spike. The problem is, market frustration hasn't translated into anything but volatility market frustration.

Market has been "volatile" for months. Here are the $VIX settlements since February: 16.64, 15.67, 13.81, 12.80, 14.67, 12.82

It's impossible to know what anyone actually does with all these VIX calls.  But they ultimately fail almost every time. 

It's nice ammo to have in the arsenal if you're of a mind to fade market drops. Beyond that, though, they really haven't worked. And yet the VIX call bid never goes away. It only gets more popular and more expensive. 

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

Published on Aug 14, 2015 at 9:06 AM
Updated on Mar 19, 2021 at 7:15 AM
  • VIX and Volatility

Another week, another scare, another churn, another time for some random short topics as I ready for a second career as courtroom sketch artist. I hear there may be an opening soon in Manhattan. Here's my sketch of NFL Commissioner Roger Goodell:

150814Warner

I know, I know. Too accurate.

With all the action the markets, you'd think realized volatility (RV) must have spiked, right? Well, wrong. 

Ten-day RV didn't do much at all this week. It actually crept slightly lower. It sits just below 10, which isn't high at all.

In some ways, it's a bit of a quirk. We had a couple of high-range days leave the calculation just as a couple new ones joined in. 

And in other ways… well, it's just a calculated number, and it doesn't quite capture the feel of a day like Wednesday, which basically felt like about double the actual range in that it was a round trip from down small, to down big, to up small. So, yes, if you're sitting net short options this week, it feels closer to 20 volatility than 10. 

Oh, and there's that Dow Death Cross again. I think basically you can prove it's signaling either End of Days or absolutely nothing depending on all sorts of variables. Back-fitting data is a wonderful thing, which is why I'm a little skeptical about some of these homegrown Algo machines popping up. 

I realize insider trading is illegal and all, but I found this week's big bust pretty fascinating. Long story short: A team of insider traders hired a team of Ukrainian hackers to access press releases early. Such a 2015 twist on an ageless crime.

I figure there are two ways a scam like this gets ratted out: Either someone blabs and it gets back to the SEC, or they do a real sloppy job covering their tracks.  And in this case it was the latter. Their prescient trading looked too good to be true, apparently, and it got investigated. 

It did lead me to wonder, though… How many more groups like this are out there? By that I mean groups that are hacking inside, market-moving info. This is probably the absolute tip of a huge iceberg. I'm sure there's way smarter ones both hacking the info and not trading in such an obvious way. Remember those algos that can read newswires and Twitter and create their own trading strategies, and then execute them? Well, pretty sure someone's going to figure out how to do all that, but include hacked, confidential info. 

Yes, that's my prediction. High-Frequency Hacking Algos. Guys are going to come home from their day job and find out they front-ran earnings and deals. 

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

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