Chapter 11

Speculating with VIX Derivatives

As discussed in Chapter 10, the ability to use VIX options and futures for hedging purposes has greatly contributed to strong volume growth for both instruments. The hedging and speculating function that these instruments serve is only one piece to the puzzle. The VIX pit, where several volatility-related derivatives are traded, is now the second largest pit at the CBOE. Multiple market-making firms involved in trading VIX futures and options are continuously posting bids and offers for both the futures and index options. Due to the large number of market makers, speculators have the ability to easily move in and out of positions. With this comfort, speculators use VIX instruments based on an outlook for volatility or the overall stock market. A successful market requires speculators to provide liquidity to allow participants to easily enter and exit positions. VIX futures, options, and exchange-traded notes have definitely attracted these participants.

A long or short opinion regarding the direction of the VIX index will mostly be based on an opinion tied to the direction of the stock market as a whole. However, there is an anticipatory component to these VIX derivative products. Due to this aspect to pricing, more than just what occurs in the level of the S&P 500 index may influence prices of VIX futures, options, and exchange-traded notes.

This chapter will address directionally based trading strategies using these three classes of ...

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