What is the VIX index?
The VIX, also known as the "fear index" or "fear index", is the world's best known Volatility index. It measures the expected range of fluctuation (volatility) of the US stock market based on the S&P 500. The VIX is developed and published by the Chicago Board Options Exchange (CBOE). The calculation is based on option prices on the S&P 500 with a remaining term of 30 days. A high VIX-value often indicates a turbulent or falling market, while a low value often signals a stable, upward market.
How is the VIX index calculated?
The VIX is based on the prices of options contracts on the S&P 500 index. Both the prices of put and call options are included in the calculation. The index indicates the expected volatility for the next 30 days as a percentage. A higher VIX value signals a greater expected fluctuation range and therefore also increased market uncertainty.
A frequently quoted mnemonic among traders is: if the S&P 500 rises, volatility (VIX) falls; if the S&P 500 falls, volatility (VIX) rises. Simply put, the VIX indicates the expected intensity of fluctuations in the S&P 500. A rise in prices is often accompanied by a fall in volatility, while volatility typically increases when prices fall.
Tip: You can find out more about the VIX index in this blog post or in this video!
How can the VIX index be traded?
The VIX Index itself is not directly tradable, but futures and options on the VIX can be traded on the CBOE. In addition, there are numerous ETFs and ETNs that track the VIX and thus offer an indirect way of speculating on the VIX. However, investors should bear in mind that the VIX is not a classic asset like a share or a bond, but entails specific risks and special features.
Since the VIX index cannot be traded directly, it is crucial for traders and options traders to closely analyze the forward curve of the VIX index. Prices of futures and options are always based on a specific VIX future and never on the VIX index itself.
The forward structure curve shows the prices of successive futures contracts. The price of a later contract is usually higher than that of the current front contract, which is due to a premium resulting from storage costs, interest rates and forecast uncertainties. This constellation is referred to as "contango".
Another rather unusual situation is the so-called "backwardation" futures curve, in which the front contract has the highest price. An example of such a backwardation situation occurred during the 2008 financial crisis with VIX futures:
When the S&P 500 falls sharply, VIX futures often switch from a contango to a backwardation forward curve. This change can be used to identify high points at an early stage.
How VIX options trading works
Index options
In contrast to futures, options have a multiplier of 100. Although the options are based on the VIX index, their pricing is based on the corresponding futures. For example, if an option writer writes a put on the VIX with an expiry date in February, the price of the February future is decisive for the pricing of the option - not the current level of the VIX index.
Key facts about VIX index options:
TWS symbol: VIX (VIX Index)
Multiplier: 100
Exercise method: European
Settlement method: Cash settlement
Tick size: 0.01
VIX-Optionen haben außerdem einen europäischen Ausübungsstil, sind also nur bei Verfall ausübbar und werden bar abgerechnet. Warum es für Privatanleger wichtig ist, das Cash Settlement zu vermeiden, erfahrt ihr in this video.
Podcast tip: Protection against volatility shocks - short puts on the VIX
NEW! Future options on the VIX
The newly introduced futures options differ from the classic index options as they are not based on the VIX index but on VIX futures. With a multiplier of 1,000, VIX futures can be booked into long or short positions on the expiry date (or during the term).
Options on the first two VIX futures are currently tradable. The trading classes are identified by four digits, with the third digit indicating the corresponding trading week in the month:
UX1E = 1st trading week of the month
UX2E = 2nd trading week of the month
The fourth digit defines the day of the week:
UX1A = Monday
UX1B = Tuesday
UX1C = Wednesday
Etc.
Key facts about VIX futures options:
TWS symbol: VIX (Future)
Multiplier: 1,000
Exercise method: American
Settlement method: Physical delivery
Tick size: 0.05
Unlike VIX index options, options on VIX futures can also be exercised during their term. There is also a difference in the multiplier, which is 10 times higher for futures options. Thanks to physical settlement, strategies such as cash-secured puts or covered calls can be implemented directly on the future.
Advantages and disadvantages of VIX futures options
Here are some of the advantages and disadvantages of trading VIX futures options:
Advantages:
- Many hedging opportunities for option writers
- Covered calls and cash secured puts directly on the future
- High contract value
- More products! VIX trading becomes more popular
Disadvantages:
- Only possible on the first two front contracts
- Index options are more liquid than futures options
- Tick size is 0.05
Conclusion - Options on the VIX future
The VIX Indexoften referred to as the "fear index", offers investors and traders unique opportunities to trade the volatility of the market. While the VIX index itself is not directly tradable, futures, options as well as ETFs and ETNs are available as indirect trading opportunities. The differences between the classic VIX index options and the newly introduced VIX future options are particularly exciting.
Due to the higher multiplier and physical settlement, futures options open up new strategies such as cash-secured puts or covered calls directly on futures. At the same time, however, they also entail specific risks, such as lower liquidity compared to index options and the restriction to the first two front contracts.
For experienced traders, VIX options and futures offer a powerful tool for hedging and speculation. However, it is essential to understand the specifics such as the term structure curve (contango and backwardation) and the settlement modalities in order to make informed decisions. Ultimately, the VIX remains a valuable tool that measures market uncertainties and offers investors guidance in turbulent times.
