Tim Bovee, Private Trader: SPY, FXI, TBT, VXX Analysis

Update 10/2/2015: I exited my iron condor on TBT for a loss two weeks prior to expirationl Shares declined by 11.4% over 16 days, or a -260% annual rate. The options produced a -63.3% loss on debit, for a -1,443% annual rate.

Update 9/22/2015: I exited SPY as my profit exceeded half of its maximum potential.

Shares fell by 3.4% over six days, or a -205% annual rate. The position produced a 344.1% yield on debit, for a 20,934% annual rate.

I'm considering the S&P 500 exchange-traded fund SPY, the long-term Treasury bond leveraged short fund TBT (whose conceptual basis and anchor is the exchange-traded fund TLT), the Xinhua China 25 exchange-traded fund (FXI), and the VIX index that tracks volatility on the S&P 500 (VXX) as potential speculations coinciding with the Federal Open Market Committee's monetary policy announcement on Thursday.

The Fed statement will be released at 2 p.m. New York time. The Fed has stated that it will begin raising rates as early as this meeting, although there has been much speculation that volatility in the Chinese markets might persuade FOMC members to delay economic tightening until December or later.

Any of these trades would be event strategies, such as the earnings plays I do or the recent Apple product announcement. Such a strategy relies on a collapse in implied volatility after the event, as traders lose interest and move on.

The typical volatility pattern in such cases is a rise in the days or weeks leading up to the announcement, a pre-announcement hook downward, and then the post-announcement decline.

None of the speculations I'm considering here fits that pattern. I blame the China Panic of Aug. 24, which sent implied volatility through the roof. The subsequent volatility decline has left most symbols with atypical forms.

Another question is one of direction. A rate rise by the Fed will typically the stock market to fall, but not always. And if the Fed fails to act this week, will the markets then indulge in a relief rally? No way to say.

Ultimately, of course, my ability to trade these symbols will rise and fall on whether their options grid will allow a sufficiently wide zone of profit with an acceptable risk/reward ratio.

I shall use the OCT series of options, which trades for the last time 30 days hence, on Oct 16 in analyzing all symbols. In the charts that follow, the red line in the lower panel is implied volatility. All charts are for one year with daily bars.

SPY

Ranges

Click on chart to enlarge.

Implied volatility stands at 21.4%, which is identical to the VIX, a measure of volatility of the S&P 500 index. SPY’s volatility stands in the 56th percentile of its annual range.

The Trade

Iron condor, short the $208 calls and long the $212 calls,
short the $185 puts and long the $180 puts,
sold for a credit and expiring Oct. 17.
Probability of expiring out-of-the-money

OCT	Strike	OTM
Upper	207	83.3%
Lower	185	83.6%

The premium is $1.05, which is 21% of the width of the position’s wings.The stock at the time of analysis was priced at $200.05.

The risk/reward ratio is 3.9:1.

The zone of profit in the proposed trade covers an $11 move either way, or 3.1 times the average true daily range.

I already have a direction neutral spread on SPY's companion SPX, which tracks S&P 500 futures. I might also take out an insurance policy of sorts by laying on a a bear call spread.

Bear call spread, short the $203 calls and long the $208 calls,
sold for a credit and expiring Oct. 17.
Probability of expiring out-of-the-money

OCT	Strike	OTM
	203	66.0%

The premium is $1.51, which is 30% of the width of the position’s wings. The stock at the time of trade was priced at $199.86.

The risk/reward ratio is 2.3:1.

TBT

Ranges

Click on chart to enlarge.

Implied volatility stands at 32.3%, which is 1.5 times the VIX. TBT’s volatility stands in the 53rd percentile of its annual range.

The Trade

Iron condor, short the $51 calls and long the $53 calls,
short the $43 puts and long the $41 puts,
sold for a credit and expiring Oct. 17.
Probability of expiring out-of-the-money

OCT	Strike	OTM
Upper	51	82.9%
Lower	43	81.9%

The premium is $0.43, which is 22% of the width of the position’s wings.The stock at the time of analysis was priced at $47.02.

The risk/reward ratio is 3.5:1.

The zone of profit in the proposed trade covers a $4 move either way, or 3.6 times the average true daily range.

FXI

Ranges

Click on chart to enlarge.

Implied volatility stands at 41.6%, which is double the VIX. FXI’s volatility stands in the 65th percentile of its annual range.

The Trade

Iron condor, short the $41 calls and long the $42 calls,
short the $32 puts and long the $31 puts,
sold for a credit and expiring Oct. 17.
Probability of expiring out-of-the-money

OCT	Strike	OTM
Upper	41	84.4%
Lower	32	86.0%

The premium is $0.18, which is 17% of the width of the position’s wings.The stock at the time of analysis was priced at $37.47.

The risk/reward ratio is 4.6:1.

The zone of profit in the proposed trade covers a $4.50 move either way, or 4.1 times the average true daily range.

VXX

Ranges

Click on chart to enlarge.

Implied volatility stands at 87.2%, which is 4.1 times the VIX. VXX’s volatility stands in the 27th percentile of its annual range.

The Trade

Iron condor, short the $30 calls and long the $32 calls,
short the $18 puts and long the $16 puts,
sold for a credit and expiring Oct. 17.
Probability of expiring out-of-the-money

OCT	Strike	OTM
Upper	30	86.0%
Lower	18	84.8%

The premium is $0.40, which is 20% of the width of the position’s wings. The stock at the time of analysis was priced at $22.68.

The risk/reward ratio is 4:1.

The zone of profit in the proposed trade covers a $6 move either way, or three times the average true daily range.

Decisions for My Account

FXI has the highest implied volatility percentile and VXX the lowest. TBT's unleveraged counterpart, TLT, has implied volatility in the 62nd percentile, making it the second highest, although TBT itself is only the the 53rd percentile, the second lowest of the set.

TBT is the only symbol to show an upward hook in volatility today, a pattern I look for.

I'm declining FXI because of the high risk/reward ratio and VXX because of the low implied volatility.

I shall enter a bear call spread on SPY and an iron condor on TBT as described above.

-- Tim Bovee, Portland, Oregon, Sept. 16, 2015

References

My volatility trading rules can be read here.

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Disclaimer

Tim Bovee, Private Trader tracks the analysis and trades of a private trader for his own accounts. Nothing in this blog constitutes a recommendation to buy or sell stocks, options or any other financial instrument. The only purpose of this blog is to provide education and entertainment.

No trader is ever 100 percent successful in his or her trades. Trading in the stock and option markets is risky and uncertain. Each trader must make trading decisions for his or her own account, and take responsibility for the consequences.