Volatility edges higher as indices weaken
Today’s tickers: VIX, WFC, VNO & LFC
VIX – CBOE Volatility Index – We’re watching options implied volatility these days as the market plumbs the depths making a beeline for the November lows. We’re watching this key indicator to see how investor fear reacts in the event we do test the low. Right now the VIX appears comfortable trading beneath a reading of 50 even in light of more bearish sentiment. Option traders have been busy buying call options in anticipation of a step up in the VIX before expiration early next week. Today the index stands 2.5% higher at 45.67 while February calls have been bought at the 55, 60 and 65 strikes on collective volume of 14,000. Traders expecting elevated anxiety next week are looking for respective breakevens of 55.83, 60.55 and 65.37 based upon premiums paid today.
WFC – Wells Fargo & Co. – It looks like one investor has given up hope of a significant rally for WFC in the next eight days given that shares are currently down by 11% to $15.57. Options expire next Friday. The trader sold 10,000 calls at the February 23 strike price for a premium of just 5 cents per contract. Perhaps the fact that shares would need to explode by at least 32% in order for the calls to land in-the-money by expiration, led this investor to throw in the towel on an unsuccessful bull play or is simply willing to take in premium on what he believes to be a highly unlikely outcome.
VNO – Vornado Realty Trust – Real estate investor, Vornado is inexplicably suffering today despite affirmation from ratings agency, Fitch & Co. on its outstanding debt quality. Shares are 6.7% lower at $46.25 and appear to be accelerating through recent support. An investor has used options to create an interesting calendar spread play that creates an overall credit to the account, but leaves the position exposed to risk should shares snap back. The investor bought 12,000 call options at the 55.0 strike for just 20 cents while simultaneously selling the same amount of same strike calls expiring in March at a 1.30 premium. It makes no sense that the investor is long of near-expiration calls so we think that he is taking advantage of time value in this case. The outright cost of the February calls is small, but would protect against a vicious rebound in the stock, but after Friday’s expiration, the investor is naked short. However, the loss of time value on the March calls is currently running at 5 cents per day using the reading of theta. That means that, assuming the share price stands still through expiration, the premium would decline by around 40 cents. Given the erosion of the February calls of 20 cents the investor would still make out just fine here if the overall position was closed at next week’s expiration.
LFC – China Life Insurance Company Ltd. (ADR) – The life insurance company of The People’s Republic of China popped onto our ‘hot by options volume’ market scanner this morning due to some interesting straddle sales. Shares are currently down by about 3% to $43.05. Between 9:42 and 9:49 a.m. (EST), one investor sold three straddles in April and July. At the April 42.5 strike price a 3,100 lot straddle was sold for a gross premium of 8.50, yielding breakeven points at $34 and $51. This investor appears to be acting on expectations of a gentle decline in volatility from a current reading of 59% and a subsequent slight increase in share price. Optimally, shares would remain around the selected strike prices, in which case all of the premiums taken in would be pocketed. But, if shares stray outside of the breakeven boundaries on the straddles, this trader would be at risk of losses. The other two straddles occurred in the July contract. At the 42.5 strike, a 1,250 lot straddle was shed for a combined premium of 12.60, yielding breakeven points at $29.90 and $55.10. At the higher July strike price of 47.5, a 500 contract straddle was sold for a hefty sum of 13.10 apiece. Thus, this trader is raking in the premium as long as shares of the insurer do not breach the breakeven points at $34.40 and $60.60, respectively.
Andrew Wilkinson
Senior Market Analyst
ibanalyst@interactivebrokers.com
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