VMW - Market Fear Yields Calendar Spread

Discussion in 'Options' started by livevol_ophir, Nov 17, 2010.

  1. livevol_ophir

    livevol_ophir ET Sponsor

    VMW is trading $77.05, up 0.6% with IV30™ down 0.7%. The <a href="http://www.livevol.com/">LIVEVOL™ Pro Summary</a> is <a href="http://livevol.blogspot.com/2010/11/vmw.html">in the article</a>.

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    The stock just came up on a real-time custom scan. This one hunts for calendar spreads between the front two months. As I have said all this week, since we're approaching expo, I am looking for a big vol diff and a big skew diff. Keep readin' for details.

    <b>Custom Scan Details</b>
    Stock Price&nbsp;&gt;= $5
    Sigma1 - Sigma2 &gt;= 8
    Average Option Volume &gt;= 1,000
    Industry != Bio-tech
    Days After Earnings &gt;=5 and &lt;=70
    Sigma1, Sigma2 &gt;= 1

    The snapshot of the scan is included (<a href="http://livevol.blogspot.com/2010/11/vmw.html">in the article</a>) in case you want to build it yourself in Livevol Pro™.

    <img src="http://www.livevolpro.com/help/images/blog/calendar_spread_scan.gif" width="600" />

    It's also available on the Scanner Tab, in the "Trading Opportunities" folder.

    The goal with this scan is to identify back months that are cheaper than the front by at least 8 vol points. I'm also looking for a reasonable amount of liquidity in the options (thus the minimum average option volume), want to avoid bio-techs (and their crazy vol) and make sure I'm not selling elevated front month vol simply because earnings are approaching.

    Looking to the Skew Tab (<a href="http://livevol.blogspot.com/2010/11/vmw.html">in the article</a>), we can see the elevated vol in the front month (red line) relative to the second month (yellow line).

    We can see how the front month is elevated to the back (which is normal this close to expo). The extra step is the skew. I've highlighted the 75 strike which is $2.05 OTM. With the market's recent big down days, these three day options have to hold a substantial value making the vol very high.

    Now we can turn to the Charts Tab (<a href="http://livevol.blogspot.com/2010/11/vmw.html">in the article</a>). The top portion is the stock price, the bottom is the vol (IV30™ - red vs HV20™ - blue vs HV180™ - pink).

    <img src="http://www.livevolpro.com/help/images/blog/vmw_charts.gif" width="600" />

    What I'm interested in here is the vol portion. Check out how high IV30™ is relative to the short-term historical vol (HV20™) and the long-term historical vol (HV180™). Specifically:

    IV30™: 45.90
    HV20™: 33.75
    HV180™: 38.94

    I'm weary of buying the Dec vol because of this chart, but if you gotta cover, then what are you gonna do?

    Finally, let's look to the Options Tab (<a href="http://livevol.blogspot.com/2010/11/vmw.html">in the article</a>).

    <b>Potential Trades to Analyze</b>
    1. Sell the Nov 75 Puts @ $0.65 (there's liquidity in these puts for small). This sells 60 vol.

    2. Do #1, but buy the Dec 75 puts for $3.20. That's a net debit of $2.55, purchases ~47 vol against the 60 vol sale. If this trade works out, I would look to sell that Dec vol probably on close Friday. Actually, even if it doesn't work out I might do that.

    3. Get a little more creative: Sell the Nov 75/80 strangle @ $0.95, and buy one side in Dec. Those Nov 80 calls are still elevated vol.

    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/vmw.html">http://livevol.blogspot.com/2010/11/vmw.html</a>

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  2. 8 vol points are too small to justify a calendar spread when vol is around 50% to 60%. I would like to see a 30% differences, in this case, that translates into 15 to 18 pts.
  3. livevol_ophir

    livevol_ophir ET Sponsor

    makes sense.
  4. On a second thought, I can still trade it if the back month IV is close to historical IV. When you long a calendar spread, it is the drop in the back month's IV that really hurts.