Last week I wrote about the odd kink in the VIX futures chart. The October future, which expires on October 21, projects 30 days of elevated volatility in the weeks prior to and after the presidential election.
From a practical standpoint, this makes sense. Markets hate uncertainty, and there’s plenty of it related to the election, from the expected surge of absentee voting this year to a possibly delayed (and contested) result.
What elevated volatility means
Most traders associate higher volatility with downward action, but it simply means wider ranges between high and low prices. A wider range makes trading harder, because it’s more risky. We are a risk averse group, so an elevated VIX sends shivers down our spine.
Think back to March when the SPX 500 fell 32% as the coronavirus pandemic shut down … everything. Even though it felt like the world was coming to an end, there were no more than two down sessions in a row. That’s right – even with a 1,200 point drop, we never saw three down days in a row.
That didn’t stop the volatility. The VIX continued to expand, rising around 350% before finally declining to the low 20’s earlier last week when ranges finally narrowed.
Here’s why trading elevated volatility is so hard:
One or two days down days in a row makes it difficult to hold short or bearish trades. Likewise, gaps up and down make it challenging to hold positions overnight. Even though the trend was lower in March as the markets were spinning out of control, it was tough to make any decent trades.
Buckle up for big moves
The VIX started rising again this past week, reminding us markets are vulnerable, even at all time highs. With stocks up five straight months, I can’t blame traders for taking some profits (you just don’t expect it to happen in one day).
The kink remains in the October future term structure, which has made option premiums very expensive. It’s obvious the market is looking for big moves. They can happen on the upside and the downside, so be ready for action in both directions.
