Did anyone catch the volatility markup at the end of the day yesterday?? We had fairly solid pre-opening activity this morning, but news of the budget standoff sent the market into a small tailspin.? The volatility players are in the serious business of trying to handicap the outcome of the Fiscal Cliff talks.? Yesterday players were pricing in a much better shot of things going through early than not.? VIX traded as low as 15.57 as it sold off most of the day yesterday.? After an aggressive print on VIX settlement this morning volatility traders started buying options in Jan cycle for the big indexes.
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Chart by TOS (www.thinkorswim.com)
What I find interesting is how the buying played out.? Normally when you see a spike in IV and a market heading south the paper is flying to the OTM puts.? That steepens the skew curve on the downside.? What we had today was something a little different.? What you see in a 3D curve graph below is that the upside today started to pick up more of a bid.?
Looking at the highlighted area of the upside calls in the SPY were up 5% or more (dark green).? You say big deal but in the land of skew they were moving more than their put counterparts.? Relative moves are important when looking at index skew and when the upside starts to outperform the downside on a big IV move paper is buying calls or at least that is where the worry shifts.?
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If you caught our Option Pit Live daily webcast we talked specifically about January options.? The market is having a hard time pricing the gamma (a big up move possibly) with the vega (the attendant volatility crush).? Paper just started buying calls, assuming today?s dip in stock prices was temporary.? That is what I am going with.? If you don?t believe the market thinks volatility is headed lower just look at the Jan VIX future.? Day one on the job as the spot month and it went backward with the full term ahead of it.? Not exactly a rousing bid for juice.
The Trade
The simple trade is buying few SPY call spreads with the expensive skew.? If you want MORE of a backspread?ask Anna (anna@optionpit.com) for a copy of the Pit Report from today.