Right, need to hedge gamma as well, I'm assuming it's part of the option trade already, just thinking if the seller can add VIX future buying to take advantage of cash/future divergence, it makes sense to me 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. [/QUOTE] We can make a strategy to trade VIX divergence, when the futures trade at a discount to cash, long VIX future and short SPY premium (long fly is probably better than short straddle since it's defined risk). When the futures at a premium to cash, reverse the trade, ...
The short VIX/long SPX trade has worked well with the contango on futures, but you're not hedging variance with the SPX. The short calendar in the VIX options [short front call/long back] is IMO a better play to flatten variance and hit the convergence to cash. The short time fly has also worked.
atticus, short VIX/long SPX is certainly a great trade at present, but isn't the long SPX/SPY's positive vega covering the vol risk on your short VIX future? Gamma is not against you either, why you need short calendar/time fly? thanks BTW, another thought is to combine the short VIX/long SPY trade with gamma scalping, the short fututre will reduce risk on vega lost if the actual/implied vol doesn't rise
Nice vids DMO. Very informative. I have one question. In "The VIX â What You Need to Know" video you argued that the brokerages use the VIX as the underlying of VIX options and this causes problems regarding high implied volatility differences between calls and puts of the same strike. Why is that so? After all the Implied volatilities are calculated based on the same (erroneous or not) underlying proxy. Why using the VIX cash as underlying produces such big differences between implied volatilities?
You have to use the RIGHT underlying to calculate an option's implied volatility - not the one everyone else is using. There are arbitrage opportunities using puts, calls and the underlying. You can lock in profits and you can lock in losses. So you'd better be using the RIGHT underlying when you do your calculations. I have an example in the video. If you want to learn more about this, look into put/call parity.
Yup. But that didn't answer my question. My question is "Why?". Why using the wrong underlying produces big difference in implied volatilities between calls and puts? What kind of difference you expect when using higher wrong prices and what difference you expect when using lower wrong prices?. How about this explanation: In your example the calls are priced at 4.75 (average of bid/ask prices) and the puts are priced at 0.75 (average of bid/ask prices). Both calls and puts have the same strike. The correct underlying is the VIX futures and it is at 29. Say that the correct implied volatility (IV) for both calls and puts is 80% (which is calculated by the Black-Scholes model using the correct price of 29). If we use an erroneous spot price for the underlying which is lower than than the correct 29 (such 23.34) then the call's price of 4.75 is relatively high (since lower spot price negatively affects the price of calls) so for the 4.75 price of calls to be justified by a spot of 23.34 their IV must be higher than before (that is, higher than 80%). Under the same rational, the put's price of 0.75 is relatively low for a spot of 23.34 (lower spot price negatively affects the price of puts) so for the 0.75 price of puts to be justified by a spot of 23.34 their IV must be lower than before (that is, lower than 80%). This explains the calls' huge IV and the puts' minuscule IV in your example. Had we used a wrong spot higher than 29 the opposite would have occurred: huge IV for the puts and minuscule IV for the calls. I would be very interesting in seeing more videos from you regarding subtle or advanced concepts on options. Based on a quick view of your posts in this forum I see that you have a deep knowledge for a lot of practical issues. Regards, Giorgos. PS. I also checked your article on scalping gammas. Nice one. Just a note: It sounds counter-intuitive to have a delta neutral position (such as the straddle in your example) and at the same time earn money when the underlying moves by one point. I know. Its gamma. But for most of the newbies a delta equal to 0 means exactly that: when the underlying moves by 1 point my gain/loss is the delta (that is, it is zero). Perhaps you could explain that a little bit in your article.