VOTE: A Trading Volatility Forum?

Looking to get your feedback on the idea of a Trading Volatility forum.

The idea would be to have a place where members can interact with each other and share their collective knowledge on strategies, technicals, insights on current conditions, etc for trading VIX products.

Vote below.

Free polls from Pollhost.com

Would you be likely to use a forum on the Trading Volatility website as a place for members to share ideas about VIX-related trades?

Yes   No

UPDATE [5/14/13]: There appear to be a lot of interest in this idea. Look for it to be ready in the near future!

New Subscription Services And Other Changes Coming To Trading Volatility

Today I have some important announcements to share with you all regarding the Trading Volatility website.

First though, I would like to thank all of you for supporting Trading Volatility. Your interest and enthusiasm for the site has been a huge source of motivation for me to continue to make improvements in order to make this one of the best volatility trading resources available on the Internet. I also want to send an extra special Thank You to those who have donated to the site. Your contributions have helped the site to grow during a critical phase.

I've really enjoyed helping people learn how to navigate the world of volatility products by sharing the knowledge and tools that I've built over the years. The number of visitors to the site has increased dramatically recently, and at times it’s been difficult to keep up with responding to all your great questions and comments.

I want to continue to be able to provide you with the information you need to successfully trade volatility products and to expand the site's capabilities, but in order to do that I need make a few changes.

Starting May 18th, some portions of this site will no longer be accessible for free. Instead, a new site, Trading Volatility+, will be made available to paying subscribers. For details on what exactly will change please see a description of the services below.

Access to Trading Volatility+ will be available for $80/month. However, during the next month I am making a six-month subscription available for $360 as a thank you for supporting the site in this early stage.

If you later decide that the service isn’t for you for whatever reason and would like to cancel your access to the site, just let me know and I’ll be happy to issue a prorated refund based on the time remaining on your subscription.

I've also had many requests for a service which communicates my VIX ETP entries and exits. The delivery mechanisms and details of the service, Trading Volatility Insider, are still being worked out. So for now this will be unofficially available at no additional cost to any Trading Volatility+ subscribers who are interested. After you sign up for Trading Volatility+, send an email to jay@tradingvolatility.net and let me know you’d like to be added to the list of people to receive updates.

For expanded descriptions of the services that will be available please visit the Trading Volatility+ page.

Referral Bonus: Do you love what Trading Volatility offers? Recommend us to a friend! For every paying subscriber you refer to us you’ll get a free month of access to Trading Volatility+.** 

Service Description Overview (effective 5/18/13):

TRADING VOLATILITY (free site)

*VIX futures term structure chart
*VIX futures quotes
*Historical market volatility quotes over various lookback periods (2 week, 4, week, 6 week, and 3 month)

*Intraday SPY Arbitrage model
*Delayed data (by 1 week): all forecasts, historical VIX data charts, and daily SPY arbitrage model
*Past Trading Volatility blog posts outlining the ins and outs of volatility ETPs

TRADING VOLATILITY+

VIX Futures Data
*VIX futures term structure chart
*VIX futures quotes
*VIX Futures metrics (XIV and ZIV roll yields, ratios of forward volatility to historical volatility, premium of front month futures to VIX, and term structure slope)
*Historical market volatility over various lookback periods (2 week, 4, week, 6 week, and 3 month)
*Six month chart of VIX Futures data
*Six month chart of actual volatility vs implied volatility
*Six month chart of front month futures to VIX premium
*Six month chart of term structure slope

  

Daily Forecasts
*VXX Bias + 6 month historical data
*VXX Spike Risk + 6 month historical data
*ZIV Bias + 6 month historical data

SPY Arbitrage
*Intraday SPY Arbitrage model
*Daily SPY Arbitrage Model

TRADING VOLATILITY INSIDER (coming soon)

*Notifications of trade entries & exits

_______

**Each referral must pay for and maintain membership to Trading Volatility+ for at least one month in order to receive the referral bonus.

The Week Ahead In VIX Futures - 5/7/13

Volatility futures across all months have been back on the decline at a fairly even pace since the spike in mid-April, as can be seen below (all charts from the VIX Futures Data page)

You can see that the overall spread and spacing between month 1 and month 7 has stayed pretty constant during this time, making for a consistent contango term structure.

You may also notice that the lines are more compressed during this time than they have been in previous months. This compression represents a flatter term structure, which can be specifically measured (using calculation of ln(M7/M1)) and plotted on the graph below.



It's another way of looking at how the slope of the term structure curve changes over time. The previous two graphs are on the same timeframe so you can directly compare what the slope looks like on days with a wide separation vs days with a narrow separation. For the past two weeks the slope of the term structure has stayed fairly constant in a pretty weak contango, with readings between 0.2 and 0.25.

I made a point about the flattening of the term structure last Wednesday as the slope reached 0.19 and the VXX Spike Risk gauge hit 5.8. The following day (May 2nd) the markets rallied and the term structure steepened back up, staying above the 0.20 mark which I find to be critical to maintain to keep inverse VIX products (XIV & ZIV) moving upwards.


So where does that leave us going forward? To answer that we move on to the Daily Forecast page.

Looking at the recent VXX Bias values, the time to look at going long XIV was when the VXX gauge crossed from  positive to negative bias on 4/17.

However, the value on the VXX Spike Risk gauge for the same day showed that the risk was a 7.3 (out of 10), indicating that VXX was very likely to see more upside:

As I noted in my recent post on using the forecast gauges, the bias is the best predictor for long term price movement while the spike risk is better for price in the next couple of days.  So according to the model, the best play was look to get long XIV was on 4/17 while VXX spiked (XIV dropped). Although because the risk gauge was elevated you want to manage that risk through either VXX call options or a smaller position until that risk gauge fell back below 5 (on 4/23). Note: Had the VXX Bias gauge turned back positive for the 4/18 forecast I'd look to exit XIV promptly.

As of today the bias remains negative for VXX so the best play is still long XIV / short VXX. The roll yield remains small, however, and the spike risk is a moderate 4.6. This is still reason for caution, and if you're not a position here already it's probably not the best time to jump in.

In terms of further downside for VXX over the next week, we're not yet in the basement as VIX could still push on down towards 3-month historical/actual volatility (HV63) which sits at 11.60, near the March VIX lows.


Looking at the ZIV forecast you can see that the bias remains positive although it appears that it could be slowing. I think this is another instance of something that is correct to stay in if you're in it, but not a great time to enter (also see the 2 year view of the ZIV bias if you haven't already).

Updates To XIV And ZIV Roll Yield Calculations; List Of Number Of Days In Remaining 2013 Roll Periods

I made a slight adjustment to the calculations of the roll yield per week for XIV and ZIV on the VIX Futures Data page. The values shown now factor in the exact number of days in the roll period (previously the calculation used a constant 21 days as an approximation).

The impact of this change is a reduction of the yield estimates that were reported yesterday by about 0.2% since the roll period for ending May 21st contains 25 days.

Below is a list of the number of days in the remaining roll periods this year.
- Ending June 18:   19 days
- Ending July 16:    19 days
- Ending Aug 20:    25 days
- Ending Sep 17:    19 days
- Ending Oct 15:    20 days
- Ending Nov 19:    25 days
- Ending Dec 17:   19 days

For more information on roll yields see this post.

New to Daily Forecasts: Addition of ZIV and Tracking of Forecasts to Results

Volatility ETPs can be tricky to trade but you can actually do pretty well just by adhering to the #1 rule: Follow the term structure. However, the market sends additional signals on future price movements that can be decoded if you know where to look. Paying attention to these signals can help improve your trading performance. 

When the day's action is over and VIX futures have settled I will look at various VIX futures metrics (found on the VIX Futures Data page) and make a determination if I should buy, sell, or hold various VIX ETPs. To better communicate my outlook on these products I've rolled up most of the metrics I use in making decisions into Daily Forecast gauges.

I first introduced these gauges last month. Today I've expanded the daily forecast to include ZIV and I've added some charts to track the daily forecasts against the actual performance of the securities.

For the VXX forecast there are two components to the VXX forecast - the Bias and the Spike Risk. 

VXX Bias 
This gauge measures the bias of VXX and is largely determined by the roll yield (more on the roll yield in this post), which can be conceptualized as a headwind or tailwind. The gauge values are on a scale from -10 to +10, with a more negative reading indicating a stronger negative bias (headwind), and a more positive reading indicating a stronger positive bias (tailwind).

5/3/13 Update: Note that the gauge's range was expanded yesterday to cover +4 and -4 standard deviations from the past 9 years of data for a total of 8σ (previously was 6σ). This tweak to account for a wider range of values has the effect of making the numbers on the scale smaller than they were previously but everything is still on a scale of -10 to +10. The neutral zone is now at +/-1.

VXX Spike Risk
The second forecast gauge reflects the likelihood of a sharp spike in VXX in the very near term (1-2 days). As inputs, it takes data from the term structure of the front two months of VIX futures, the premium of front month futures over (or under) spot VIX, historical volatility, and recent moves in spot VIX to identify various risk conditions.  All risk conditions are then weighed together to provide a single output to represent the total risk. The higher the reading, the greater the risk of a large magnitude spike.

The gauge's output is a scale of 0 to 10. Values below 2.5 indicate a low risk of a spike in VXX. Values between 2.5 and 6 are moderate risk. Values above 6 are high risk. Typically any reading above 5 is cause for some concern.

Using the Bias and Spike Risk Gauges Together
The Bias gauges provides a view of the direction of VXX and ZIV over a medium to long time frame. There may be occasional moves in the opposite direction, but over the long term the price of VXX will move according to the bias of the gauge.  Red means it's going down, green means it's going up, and yellow means sideways and generally choppy conditions.

The Spike Risk Gauge gives information about the possibility of moderate or large spikes on a more short timeframe (1-2 days out). When long XIV (or short VXX/UVXY), this can serve as a signal to make sure you are adequately prepared for such a move just in case, i.e. reduce positions, exit positions, buy protective VXX calls, set stops, or maybe just get mentally prepared to see the value of your holding go down.

Obviously there are market/world events which will cause VIX and VXX to spike dramatically without warning. While this model cannot predict the unexpected, it does provide the ability to detect shifts in investor sentiment of known macro risks.



ZIV Bias Forecast
The ZIV forecast only has a bias gauge because the VXX spike gauge can be applied to ZIV. The differences being that ZIV will move in the opposite direction and generally at a smaller magnitude. Similar to the VXX bias gauge, the ZIV bias gauge estimates the direction and strength of ZIV based on the shape of the term structure, but also includes an adjustment based on the shape of the front end of the curve under certain conditions. The scale is also from -10 to +10 with the neutral zone at +/-1. As you can see below, the reading based on Thursday's forecast of 2.7

Tracking Forecast Results
To give this some context I've included a six month view of data comparing the values of the forecast to the price of ZIV at the bottom of the Daily Forecast page. For an extended look at the ZIV forecast, below are the results from April 2011 to present (forecasts on the left axis; ZIV price on the right axis (log scale)). Generally long ZIV is a good play when forecast values are in the green zone on the bias gauge (above 1).

Similarly for VXX, the 2 year chart shows that being short VXX when the bias is below -1.0 (red zone on the gauge) and long VXX when the forecast is above 1.0 (green zone on the gauge) are very good trades. Note the choppiness in the price of VXX when the forecasted bias in in the neutral zone (forecasts on the left axis; VXX price on the right axis (log scale))

The 2-year chart of Spike Risk vs VXX % Change is a bit harder to read on this time frame but I've included it below anyways. A well-formed model will have a reading of 5 or higher (left axis) prior to any significant daily spikes in VXX (right axis). You can alternatively view the 6 month chart on the Daily Forecast page for a cleaner view on a shorter time frame.

VIX Futures Flash Warning Signs

Some negative developments in the VIX futures term structure occurred today with a flattening of the term structure (see full current term structure data here):
 - Spread between M1 and M2 narrowed to -0.75
 - Spread between M4 and M7 narrowed to -1.15
 - Spread from M1 to M7 narrowed to just -3.15 points

The roll yields for XIV and ZIV fell to 1.1% and 1.5%, respectively.

To put the M1-M7 spread in context here is a view of the slope of the VIX futures (left axis) along with the price on XIV (right axis). A slope reading below 0.2 has typically been market negative in the very short term over the past few years (today's closing was 0.19).

The rise in VIX to 14.49 (+7.2%) brings it to within 5% of front month futures and increases the risk of a larger VXX spike in the short term. The volatility risk premium remains negative, with actual volatility over the past month (HV21) at 14.77.

The VXX forecast VXX spike gauge reflects these changes with a reading of 5.8. When the reading on here is above ~5.5 you can generally expect some choppiness in the price of XIV & VXX as a best case, and worst case of some large VXX moves upward.

Because of these current conditions and a multitude of warning signals I'm still not interested in a XIV long position. As I've suggested in the past week here, here, and here it makes sense to look into some cheap VXX calls as a hedge if I were long XIV/SVXY or be out altogether.

VIX and SPY Show Positive Correlation For 4th Day In A Row

VIX Futures down slightly today, but remain largely unchanged at the close for 4 days now. The S&P pushed up to within a point of new all-time highs during the day but VIX futures diverged as can be observed in the intraday SPY arbitrage model.

With the VIX futures term structure mostly stationary the spread for the front two months remained at -0.85 making for a roll yield that isn't benefiting XIV much (this lack of movement has also resulted in a mostly stationary VXX Daily Forecast).

Spot VIX also diverged from its normal inverse correlation to the SPY again, making it 4 days in a row or positive correlation. I'd love to see someone run through the data on this to see when the last time was that this happened (typically positive SPY-VIX correlations are negative for the market in the following days).

VIX remains 5.6% below actual market volatility over the past 30 days (HV21 at 14.53) resulting in a continuation of a negative risk premium. While this is unusual it's not unheard of, especially after a recent spike in VIX like we saw in mid-April. If we get a few more low volatility days in the market HV21 will come down to about 13.75 by Thursday.

The daily SPY arbitrage model is still holding a pretty wide spread as well:

Given that the usual correlations seem to be temporarily broken and the contango spread is neutral it seems best to continue to wait it out a bit for a more profitable setup. Alternatively, if I owned XIV/SVXY I still think it's a good idea to pick up some cheap VXX calls as I mentioned via Twitter last Wednesday.


UPDATE
Performance of S&P 500 after 3 or more consecutive days of positive SPY-VIX correlation, from 3/2004 to present:

Retirement of the Twitter Sentiment Analysis Tool

While I find the information from the Twitter Sentiment Analysis tool to be interesting, it doesn't lead to any actionable trading in its current format.  Because of this I've decided to remove it from the site.

I will continue to track the sentiment data to see how it correlates with the price of VXX over a longer period of time to see if there is a more usable format, but I tend to think that the tool is better suited for gauging interest in individual stocks rather than ETPs.

As a final chart, below is a view of the daily net Twitter sentiment of VXX compared to the daily percent change of VXX over the past month.

The #1 Rule For Trading Volatility ETFs

Every couple weeks or so I see a new article from someone giving advice on how to trade volatility ETFs & ETNs such as XIV, VXX, SVXU, UVXY, and ZIV. Often the author will at least know that these products trade based on the VIX futures. But every once in awhile I'll see something more misguided, like the chart below. While it looks promising, once it is applied to historical data it does not deliver positive results.

For example, let's take a look at the period between August 2004 and May 2006 when VIX bounced between 10 and 16 (VIX on left axis; VXX on right axis). The chart says buy VXX below a VIX of 16.

The return for VXX during this time was -75%, a loss attributed to the fact that the front two months were in contango with a spread averaging 0.98.

Let's continue on to the next period, between May 2006 and Feb 2007 when VIX was spending much of its time between 10 and 12.  The result for VXX is a 57% loss, and again the reason is a contango term structure, with an average spread between front month futures (M1) and 2nd month futures (M2) of 0.85.

 

You may point out the spike in VXX from $1000 to $1350 on the left hand of the chart, which is a nice 35% gain. Unfortunately, if you were following the chart and buying XIV when VIX rose above 16 then you would have lost 30% over the next couple of weeks before almost breaking even if you held your position until VIX dropped below 16 again.

OK, so I can hear some of you saying that I'm cutting off the chart before VIX and VXX spikes. Take a look at the next period, from Feb 2007 to Feb 2011 when VIX spiked during the 2008 crash. During this time VIX was above 16. Since the chart above says buy XIV when VIX is above 16, I'll compare VIX (left axis) to the price of XIV (right axis).

The result is a 64% loss up until Dec 2007, followed by another 66% loss from Aug 2008 to Dec 2008, for a total of an 88% loss in XIV from 2/27/07 to 12/19/08.  At this point your position has essentially been demolished after this 21 month period. But let's give you the benefit of the doubt and say that you stayed solvent and held on to this position for the 4 year period until VIX dropped below 16 again. In that case you managed to almost break even in that XIV trade.

Looking at the term structure during this period, we find that between 2/27/07 and the bottom in 12/19/08 the term structure was in backwardation, with an average of a 0.67 spread between the first two months. Backwardation has the effect of making VXX rise and XIV fall.

From 12/20/08 to 3/24/2011, when the price in XIV goes up from 2 to 14 for an excellent 7x return, the term structure is back in contango with an average of 1.51 points between M1 and M2. Contango has the effect of making XIV rise and VXX fall.

At this point, the #1 rule in trading volatility-based ETFs should be clear: Follow The Term Structure.

The term structure is going to be the biggest driver of price for volatility-based ETPs over time. There are of course other factors that need to be taken into account when trading volatility ETPs in order to maximize your gains, but you will be able to trade these products pretty well just by following this rule.

To view the current term structure and other metrics that are critical to trading volatility ETPs, visit the VIX Futures Data page.


**Note: VXX and XIV price data prior to the funds' first trading days (1/30/2009 for VXX and 11/30/2011 for XIV) have been calculated by using the VIX short-term futures underlying index values derived from actual data of month 1 and month 2 futures.