By Laura Matthews
NEW YORK, Nov 30 (Reuters) – Renovated appetite for stocks is helping drive investor interest in volatility-linked options, which could buffer their portfolios against stock swings, setting those contracts up for record trading volume this year.
The S&P 500 is up 18% so far this year, compared with last year’s decline of 19% – a rally turbocharged in recent weeks by expectations that the US Federal Reserve will raise interest rates.
That came along with a record average business volume in contracts betting on the Cwell Volatility Index .VIX or VIX — known as Wall Street’s fear gauge — as looming economic and geopolitical risks keep investors wary of a potential return of volatility.
“This indicates that people are nervous,” said Mandy Xu, head of derivatives market intelligence at Cwell. “This year, the consensus is that we’re at or near the end of the migration cycle, but there’s not a good consensus view of what’s next.”
Markets seem calm now, she added, but this environment is one where a black swan event could increase volatility because of its unpredictability and far-reaching consequences.
VIX options contracts averaged nearly 760,000 daily, surpassing the record set in 2017, according to Cboe Global Markets. CBOE.Z, CBOE.N data as of November 27. That is a 42% increase from 2022 and up 5% from the previous recordwith VIX options trading in October at a high for the year.
Trading VIX call options, which would benefit if the VIX rises and are commonly used for protection, including tail hedges who guards against larger unexpected market losses, up 54% this year. Put options on the VIX, which benefit from declining volatility, rose 24%.
Joe Ferrara, investment strategist at Gateway Investment Advisers, whose strategies aim to capitalize on the difference between implied and realized volatility, said investors see a growing list of potentially volatile events including wars and elections on the horizon. Such investors “look at trading VIX options as a way to potentially monetize their thinking,” he said.
The VIX tends to move inversely with the S&P 500, rising when stocks fall.
Currently at 13, the VIX is below its long-term median of 18, which means investors can buy relatively cheap insurance and position in potentially profitable trades.
“What we’re seeing now is cheap given the amount of potential turmoil in the market,” said JJ Kinahan, president of tastytrade, a retail broker.
The rise in VIX options trading is a shift from 2022 when investors reduced equity exposure and hoarded cash, according to CBOE data.
With the VIX averaging 17 this year, VIX options trading volume as a share of total options volume is at 1.76%, the highest since 2020 — a much more volatile year when the VIX averaged 29, according to a Reuters analysis based on Business alert data
Seth Hickle, derivatives portfolio manager at Innovative Portfolios in Indiana, said returns from volatility strategies can be erratic in the short term, but can be consistent over long periods.
“In an average volatility year, I would not be shocked to see volume trends continue to increase in VIX options as more market participants embrace and accept volatility as an alternative asset class and the need to hedge that exposure grows,” Hickle said.
Timing VIX options profit in an environment where jumps in the volatility index are fleeting can be difficult, said Roni Israelov, chief investment officer at NDVR.
The potential for the index to make huge moves in very short periods also makes it an “attractive instrument” for speculators, Hickle said.
“I think there are speculators who say with a 14 handle on the VIX, maybe it’s worth taking that bet and doing that trade.”
CHART: VIX option trading volume (000s)
GRAPHICS: A little fear
(Reporting by Laura Matthews in New York; additional reporting by Saqib Iqbal Ahmed in New York; Editing by Megan Davies and Chizu Nomiyama)
((Laura.Matthews@thomsonreuters.com; 646-540-2256;))
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