Risk Managing Volatility Trades

The nature of swing trades is that sometimes things swing against you. That is the case in the government shutdown not staying shut down. Our volatility speculation became a lot more speculative this morning when the Senate voted 81-18 to pass a continuing resolution to end the government shutdown for until February 8th.

Deal reached to end government shutdown

If you sold the iPath® S&P 500 VIX ST Futures™ ETN (VXX) puts last week I recommended, those puts can be bought back right now for less than what you were paid in premium. In my case, I received $1.53 per share per VXX February $25 puts last week and I just closed the positions for exactly $1.00. So, that’s a profit of 53¢ against a commitment to buy at $25. To calculate the gain, divide .53 by 25. Let’s round that to a 2% gain for one week holding time, or 104% annualized. Obviously we would take that every week if we could. 

I used the put premiums to buy calls on Friday. I had to add money as well to build the call positions. The put premiums represented about 40% of what I spend on calls.

Those VXX February $27 and $32 calls are both down about 25% right now. I am monitoring this week and think it is likely I close the positions in coming days. Hopefully, there’s a bad day in the markets to give us a bump to about even. 

{update: We were able to close the call trades at signficant gains on the 2-day mini-correction. The recommendation to close the $27s came first and netted about 50% and closing the $32s, depending on time of day you did it, netted 100% to 150%. Clearly we are happy with that. I am likely to open up new VXX call trades the week of February 5th.}

The concept of trading VXX options is very short-term in nature. We ARE speculating on catching a catalyst to within a week or two. The government shutdown has been deferred to the week of February 5th with a deadline of February 8th. 

With the new IMF report raising global GDP forecasts on the back of Europe and Asian growth, as well as, U.S. tax cuts, there seems to be more wind at the back of markets. That’s not good for a short-term volatility trade. While I think the news is overstated, that doesn’t mean markets will agree with me soon. 

Pick your source for IMF headlines: 

imf growth forecast – Google Search

or go straight to the horse’s mouth: 

Coming Soon: World Economic Outlook Update, January 2018

Notice that while the short-term is getting a bump, the longer term has questions of the “slow growth forever” variety. If you haven’t read my pieces on “slow growth forever,” which is hashtagged at Twitter (TWTR) as #slowgrowthforever, take a look.

Timing is Hard

Market timing gets a bad rap, and rightfully so, since most people who try it, try it too much and do it poorly. The right way to do market timing is infrequently and when multiple catalysts are on your side. 

In the case of the VXX trade, we had a lot of catalysts on our side:

  • steep stock overvaluation
  • near record lows on volatility
  • tightening liquidity
  • recent Iran turmoil
  • rising oil prices
  • increasing trade tensions, i.e. NAFTA
  • government shutdown
  • slow secular global growth

Two of the major catalysts just went away. The shutdown and the IMF upping short-term global growth. Frankly, it was such a good setup for rising volatility I wanted to take a piece of it. Well, I’m much less inclined to take that bet again now until about February 6th or so. We’ll see. 

For now, take your profits on the put trades and monitor the call trades. I’m looking to get out about even on the call trades. If we get some momentum on rising volatility for some reason, I might reconsider my sell strategy.


Disclosure: I am/we are long VXX.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: Long VXX via calls. I own a Registered Investment Advisor – https://BluemoundAssetManagement.com – however, publish separately from that entity for self-directed investors. Any information, opinions, research or thoughts presented are not specific advice as I do not have full knowledge of your circumstances. All investors ought to take special care to consider risk, as all investments carry the potential for loss. Consulting an investment advisor might be in your best interest before proceeding on any trade or investment.

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