Trading the VIX: Futures trading opportunities from options

Options and futures trading are two separate types of derivatives contracts, but traders looking for a competitive advantage in the markets should consider where and how these two contracts may overlap.

In the recent NinjaTrader Ecosystem webinar “Why Options Trading Is Driving S&P Futures: Learn How to Use Real-Time Data From the Exchanges,” Chris Knox of ZoneTraderPro explained why option trades push E-mini S&P 500 (ES) futures and what futures traders can learn from the Chicago Board Options Exchange (CBOE) Volatility Index (VIX).

Knox suggested traders rely on a combination of five popular tools to help them gain a competitive advantage when trading:

• Price patterns
• Order flow
• Divergence patterns
• Volume analysis
• VIX analysis

The VIX is popular among options traders but is still relevant for futures traders. A popular measure of the stock market’s expectation of volatility based on S&P 500 Index (SPX) options, the VIX is a real-time index representing the market’s expectations for volatility over the coming 30 days.

The VIX is calculated and released on a real-time basis by the CBOE and is often referred to as the fear index or fear gauge. Investors use the VIX to measure the level of risk, fear or stress in the market when making investment decisions.

Falling implied volatility is generally caused by an imbalance of supply of options from option sellers over demand for options from buyers. The daily change in the VIX is an indication of how aggressively SPX option contracts are being bought or sold.

Trading the VIX: The why

When options are traded, the options dealer wants to have no directional bias. To accomplish this, options dealers will hedge the put (market down) or call (market up) they just sold with ES or Nasdaq futures.

Put and call options:

• Long call: a bullish bet offset by the dealer buying ES futures
• Short call: a bearish bet offset by the dealer selling ES futures
• Long put: a bearish bet offset by the dealer selling ES futures
• Short put: a bullish bet offset by the dealer buying ES futures

Knox goes in depth on trading the VIX in the full presentation, which you can view here.

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