New volatility products make good hedges

Several new volatility products have recently entered the market or will soon be listed for trading. The most promising of these is the new set of contracts to be listed on the Chicago Board Options Exchange. Trading began on March 25 in Gold Volatility Index futures on the CBOE. Options on them will be listed on April 12. Many other new products will follow in due course.

The following article was featured on Marketwatch.com.

CBOE’s new volatility products:

The CBOE is going to start trading options on a whole new set of stocks and exchange-traded funds, plus create more volatility indexes. This is welcome news to anyone who views volatility as a “friend.” Personally, I feel that a long position in anything (stocks, futures, ETFs, etc.) can be better hedged by owning volatility, in the form of volatility calls than it can be by buying puts or selling covered calls.

The volatility, or VIX, calculation is merely a formula that can be applied to the set of options on anything — as long as there are continuous markets being made in the options. The traditional VIX (VIX 17.22, +0.32, +1.89%)  is based on the Standard & Poor’s 500 Index (SPX 1,333, -2.54, -0.19%)  options and will probably eventually come to be known as the “SPX VIX.”

You may already know that the CBOE has been publishing a VIX calculation on several stocks and commodities for some time. For example, there is an “Oil VIX” (OVX 32.40, +0.25, +0.78%) , “Gold VIX” (GVZ 15.53, -0.52, -3.24%) , and “Euro FX VIX” (EVZ 10.68, -0.13, -1.20%) . These are based on the options on the United State Oil Fund (USO 43.64, +0.27, +0.62%) , SPDR Gold Trust (GLD 142.17, -0.21, -0.15%)  and Euro Shares (FXE 142.37, -0.37, -0.26%)  ETFs, respectively.

Also there are new VIX-like calculations on the stocks Apple Inc. (AAPL 337.83, -0.21, -0.06%)  (AAPL), Amazon.com Inc. (AMZN 184.22, +1.46, +0.80%)  , Goldman Sachs Groups Inc. (GS 163.39, +1.50, +0.93%) , Google Inc. (GOOG 578.33, +4.15, +0.72%) , and IBM (IBM 164.05, +0.01, +0.01%) . The respective symbols for the volatility calculations on these six products are VXAPL, XVAZN, VXGS, VXGOG, VXIBM, and VXOVX.

The CBOE has applied to trade options on all of these VIX-like calculations, and — if approved — there will be volatility futures on them as well.

In addition, the CBOE is going to start disseminating VIX computations for the iShares MSCI Emerging Markets Index ETF (EEM 49.91, -0.13, -0.26%)  (“VIX” symbol: VXEEM); iShares FTSE/Xinhua China 25 (FXI 45.91, -0.16, -0.35%)  (VXFXI); iShares MSCI Brazil (EWZ 79.12, +0.46, +0.59%)  (VXEWZ); Market Vectors Gold Miners (GDX 62.51, -0.26, -0.42%)  (VXGDX); iShares Silver Trust (SLV 38.57, -0.05, -0.13%) (VXSLV); and Energy Select Sector SPDR (XLE 78.98, -0.47, -0.59%)  (VXXLE). Obviously, the CBOE will look to list options and futures on these at some time in the future.

I have long predicted that somewhere in the future, when a new stock or ETF has options listed, there will be put options, call options, and volatility options (and futures). This is the beginning of that statement coming true.

CME volatility futures and options

Everyone is trying to get a piece of the “volatility pie,” it seems. Of course, the leader in volatility trading is still the CBOE and its futures exchange, the CFE – where the VIX futures and options trade.

As we’ve detailed these various products over the years and months, we also know that iPath S&P 500 VIX Short-Term Futures (VXX 28.52, +0.34, +1.21%)  and iPath S&P 500 VIX Mid-Term Futures (VXZ 54.81, +0.47, +0.87%) , Barclay’s exchange-traded notes, or ETNs, are popular as well and have active listed options.

Other exchanges have yet to figure out a way to provide liquidity for their various products. There was a lot of fanfare for the CME-listed volatility futures on gold and crude oil. Trading, though, has been woeful in these contracts.

Even after being listed for two months, there is a total open interest of zero in gold and no open interest at all in the crude oil volatility futures either. Moreover, I know for a fact that traders have tried to get markets out of the pit and basically the contracts are untradable. Why even bother?

VolX and realized euro futures

Now, there are realized volatility contracts listed on the CME, in the euro. These contracts were designed by an independent company, The Volatility Exchange, or VolX, which publishes realized volatility indexes on 11 different markets (two currencies, three equity indexes, three commodities, and three interest rates). These 11 VolX indexes cannot be traded (except for the euro listing).

The symbol for the realized euro volatility contracts on the CME is 16E. There are currently March, April, and May futures expiring this year (16E H1, 16E J1, and 16E K1). Trading volume and open interest is low, but they are at least trying to get some activity going.

I wish them success, but one wonders why the lessons that the CBOE has learned are not being taken to heart by these futures exchanges. CBOE variance contracts have been woeful (although way more active than anything the CME has listed so far). All of the public demand is in implied volatility. So why list a realized volatility contract?

CBOE Volatility SKEW Index

The CBOE is now publishing a Skew Index. This is similar to VIX, except that it only measures the deeply out of the money contracts – at the tail end of the distribution. Most of the time SKEW trades at a higher price than VIX, but it didn’t in the “crash” of 2008 (somewhat strange).

The index is being calculated and published only once per day (at the close). There are no actual products that trade.