The question is : do You want to trade the volatility? So yes. Have You another instrument to do it. ? If not, let's continue with the same instrument (the choice is futures for me)
Implied vola of VIX options calls and puts could go up the next weeks! Calls can be quickly be higher priced because of increasing Implied vola. Plus calls can be quickly be higher priced if SPX drops (current correlation SPX->VIX = -.83).
Implied vol is not an input to the VIX calcs there smart guy. VIX is calculated from weighted midpoint prices, not vols. Re-read the white paper, slowly, and maybe you will get it. The VIX ~ IV equivalence "proof" involves a good bit of handwaving at critical junctures. The VIX density estimation engenders a number of discontinuities due to its particular discreet sampling regime and theoretically questionable perpetulalization method. Thus VIX can rise even when IV falls.
Emilio, admittedly, it does not directly take implied vols into account. So, in the literal sense you are correct, smart boy. However, the first part of the formula is nothing else than an indirect way to account for the implied vols over the different strike SPX options that are utilized for the computation. The bid-ask spread of the call/put options inside the sum directly accounts for changing implied vols, meaning implied vol changes in the SPX options directly flow into the VIX index computation. In that sense I also disagree with you. But I am still thankful that you urged me to revisit the white paper because the answer to my question, I believe lies in the second term of the formula where 1/T(F/K0-1)^2 is subtracted. In terms of movements in the delta the second term dominates the first term and as a result when the SPX trades up the call option price reflects this change in the underlying, however, this effect is counterbalanced by subtracting a function of the forward index level. That, I think is where the negative correlation is coming from. I dont want to fight with you over the definition of implied vol. In a strict sense you are right it does not go into the VIX index directly but I think I made a good case that implied vols still impact the formula in significant ways. What I amconvinced about, however, is that VIX futures and options DO NOT provide an efficient means to trade market volatility. I claim that you are able to trade vol much more efficiently and "purer" with SPX options and hedging away delta and gamma. This introduces other factors but in terms of vol trading it clearly comes closer than anything VIX offers. I mean, think about it: If I wanted to trade volatility why would I want to be taking exposure to movements in the SPX? THat is what all derivatives trading desks at banks avoid by being at least delta hedged and often reducing gamma exposure as well.
Also, The whole formula is questionable. I mean, sure, you can come up with whatever formula you want (I think GS was the first who offered clients this or similar product OTC) as long as your clients buy into it. But I say questionable because it does not what it promises. It does not let you trade market volatility. I have no problem with the fact that VIX can rise when IVs fall. Sure thing, same can happen with any long option due to the impact of a host of other factors. However, I do have a huge problem with the fact that the SPX can spike widely up and the options on SPX exhibit higher IVs and the VIX and its options still trade down significantly (and this has happend a lot of times largely due to the negative correlation issue). This is anything but a vol product.
Are You long or short in this options? "In" or "Out" of The Money. (can you describe, dates and strikes) If the problem appears in the long positions, perhaps think of revising your strategy. Short them, with an Hedge. Like selling options against LEAPS.
Artes, I am long a moderate amount of 20 Oct and Nov calls. I got the Oct calls relatively cheap at 1.30 when IV was attractively priced last week but if nothing happens this week I will roll my exposure into farther expiries or get completely rid of them, moving into SPX options and hedge away delta.