SPY - One Day Skew Trade

Discussion in 'Options' started by livevol_ophir, Nov 18, 2010.

  1. livevol_ophir

    livevol_ophir ET Sponsor

    SPY is trading $120.20, ripping up 1.7% with IV30™ down 13.4%. The <a href="http://www.livevol.com/">LIVEVOL™ Pro Summary</a> is <a href="http://livevol.blogspot.com/2010/11/spy_18.html">in the article</a>.

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    As I mentioned in an earlier post today (<b><a href="http://livevol.blogspot.com/2010/11/amzn.html">Amazon (AMZN) - Short-term Skew Peaks on Market Fear</a></b>), the downside vol is remaining elevated in these expiring options because the fear of a big down day has been re-introduced to the market by it's recent drop.

    Let's take a look at the SPY skew today (<a href="http://livevol.blogspot.com/2010/11/spy_18.html">in the article</a>).

    I've highlighted the 119 strike and the vol difference between the Nov 26 weeklies and the Nov monthlies (expiring tomorrow). The weeklies are priced 8 vol points higher, or ~50% more expensive than the Nov 26 weeklies.

    Let's look to the Options Tab (<a href="http://livevol.blogspot.com/2010/11/spy_18.html">in the article</a>) and talk about some trades to analyze.

    <b>Possible Trades to Analyze</b>
    1. Buy the Nov 26 weekly 119 put for $0.59 and sell the Nov monthly 119 put @ $0.18. This spread pays $0.41. I like this trade for a few reasons:

    1. It's a one day trade on the super elevated expiring monthlies. If SPY sits here, it should be a winner if vol remains unched in the weeklies as the put would be worth $0.50 and the sale would expire worthless.

    2. If the market catapults down, say $2.00, like today, here's the scenario I see:
    SPY closes: $118.2
    Short puts are worth $0.80 (parity).
    Long puts with vol unched would be worth: $1.41
    So the $0.41 spread would be worth $0.61, nice... But, if the SPY goes back down $2.00, the vol would go up in the long puts. So the spread would more likely be worth ~$0.72 (that's a two point vol jump in those puts after decay). So, really, the downside is not the problem (other than a total market collapse, like 7+%)

    3. If SPY goes to 120 (down small) and vol remains unched, the spread would be worth ~ $0.55. Another nice little win.

    The risk is if the market goes up. I see breakeven ~ SPY at 120.40. This allows for a small dip in vol as well (maybe 0.5 point).

    So, in conclusion, this trades <i>could</i> win if SPY &lt;= 120.40 and risks just $0.41 for that bet. Of course, this is just hypothetical mumbo jumbo, but it's really fun mumbo jumbo. Alternatives are all kinds of 1 x 2 or diagonals with time spreads. This is trade analysis, not a recommendation.

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    Details, trades, prices, vols, skews, charts here:
    <a href="http://livevol.blogspot.com/2010/11/spy_18.html">http://livevol.blogspot.com/2010/11/spy_18.html</a>

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