If you had the balls to short SPY or SPX straddles in the midst of that stampede, you're a better man than I.
DMO, sure one may get killed easily by fast moving gamma the real question is why people would buy these equity options at such expensive level, given the fact that everyone seems to know the high IV is temporary
Imagine you're setting out on your new sailboat for a trip around the world. Before you go, a genie offers you his personal guarantee that you will complete your journey safely, for a modest price of $10,000. You decline. After all, you're a competent sailor. How bad can it get? In the middle of the ocean, you are struck by a hurricane. 160 knot winds shred your storm sails and dismast you. You are taking on water. You are being buffeted mercilessly by forces you never imagined and which are far beyond your control. You cannot imagine how you will survive. Suddenly the genie appears and repeats his offer of safe passage. The price is now $100,000 - ten times the original offer. This time, you accept. That's a pretty good analogy of why people were paying 90% and more for portfolio insurance (in the form of puts) during that wild selloff last year. Paying 90% was not a rational decision. It wasn't people saying "Hmmm - 90% IV - okay, that makes sense." It was people in so much pain that they would pay ANYTHING for relief. The VIX futures traders were much more detached. They could see this was a spike that would most likely not last. So they were falling all over each other to sell it short. Hence the 23% premium of cash VIX IV over VIX futures.
Perhaps to hedge their short options I was selling and buying front month SPY options with IVs of over 100 during the spike.
DMO, I know your thesis about portfolio insurance, and good explanation of vol skew in your other posts. I was arguing about the divergence between VIX cash and VIX future, whoever (option MMs) were selling those equity options to the portfolio managers were taking the risk. They need to hedge their positions by buying/shorting underlying stocks, if the VIX future is much cheaper than the VIX cash (based on equity option IV), why wouldn't the MMs buy the VIX future to further reduce the risk? It sounds like a good arb trade. BTW, for those shorting VIX future they're taking great risk as well, what if they had shorted around 20, which is pretty normal range in the past several years?
This is not an arb because buying VIX futures only covers part of your risk. When you short options you assume vega risk and gamma risk. Buying VIX futures only covers your vega risk. You're still naked short gammas. Right. And note that most of the time when the VIX trades around 20, the futures do not trade at a discount to cash. For the past several months in fact, the futures have traded at a premium to cash.