With the current uncertainty in the stock market, the $VIX index has once again received a lot of financial media coverage. Last week we recommended the purchase of $VIX calls as a hedge for your portfolio. We received numerous comments from people who took our advice but didn't seem to understand how $VIX options price.
Suddenly, the stock market started to develop "religion" about the U.S. debt situation, and sold off sharply this week.
In one sense, this is like any other "event" -- an FDA hearing or a potentially volatile earnings report: the underlying has trouble moving decisively in either direction until the event has passed.
There has been something of a “buzz” in volatility forums and in some media articles about a backspread strategy that is designed to take the loss out of using $VIX options for protection or speculation. As you know, we are running a “perpetual call buy” strategy for long $VIX calls (Position S610). Also, this week we recommended the purchase of $VIX calls as protection for stock portfolios, for those who were worried about what might happen in the event of a downgrade of U.S. debt or a failure to raise the debt ceiling.
Are you worried that the wrangling over the debt ceiling might become a crisis for the stock market? A number of analysts are predicting dire results if the ceiling is not passed by the August 2nd deadline. In fact, some say that even now it's too late to keep the U.S. credit rating at AAA. I think the stock market as a whole is smart enough to discount these possibilities, and therefore such worries are probably overblown since the market is rallying, not plunging.
Thursday's breakout upside move in the stock market has solidified the indicators together into a bullish posture. The chart of $SPX held onto a bullish picture even though the selling in the past two weeks was heavy at times. The 20-day moving average has been rising all along, and the index never closed meaningfully below that average
Equity-only put-call ratios have remained bullish, as they have continued to decline from their high peaks of a month ago.
The stock market staged a strong rally on Tuesday. Was it just a “Turnaround Tuesday” — a reaction to an oversold condition that had developed via the heavy selling of last week — or was it a true change of sentiment from bearish to bullish? To answer that question, we can look to our technical indicators, for several of them are right on the brink of turning bullish. The bulls actually had a strong chance to effect that change today, and they did not.