On Tuesday, Feb. 19, the CBOE Volatility Index® (VIX®) closed at 12.31, its lowest daily closing value since April 20, 2007.
In recent months some investors have raised the issue – is a low-volatility environment (with relatively low VIX levels) a time in which it is option-writing strategies (such as the buy-write) can find it difficult to generate strong performance? It appears that some people have had the assumption that low-volatility environments, with low gross premiums received, can often lead to relatively weak performance for option writers.
After giving the issue some thought, I did a simple analysis of 23 calendar years of data as shown in the table below. The order of the years in the table is re-arranged so that the years with lower average daily closing values for VIX are at the top of the table.
BXM ROSE IN YEARS WITH LOW VIX; S&P 500 AND BXM BOTH FELL IN 3 YEARS WITH HIGH VIX
Here is a summary of some of the highlights for the 23-year analysis in the table below –
- VIX BELOW 25.7. In the 19 years in which the VIX avg. daily closing value was below 25.7, the CBOE S&P 500 BuyWrite Index (BXM) rose all 19 years. (On the other hand, the S&P 500® total return index fell in 2 of those 19 years.
- VIX BELOW 12.8. In the 2 years (1993 and 1995) in which the VIX avg. daily closing value was below 12.8, the BXM rose 14.1% and 21.0%.
- VIX ABOVE 25.7. In the 4 years in which the VIX avg. daily closing value was above 25.7, the BXM fell in 3 years (2001, 2002, and 2008) and the S&P 500 fell by even more than the BXM Index in those 3 years. On the other hand, in 2009 the VIX averaged 31.5, and both the BXM and S&P 500 rose by more than 26%.
COMPARING BXM AND S&P 500 RETURNS IN LOW-VOL AND HIGH-VOL YEARS
I used the data from the table above to create the chart below in order to present a graphical comparison of the returns of the BXM and S&P 500 indexes. In the year 1995 there was low volatility, as the average daily close for the VIX was 12.4, and the BXM return (21.0%) minus the S&P 500 return (37.6%) came out to a total of negative 16.6% return, as is shown in the top bar below. Viewing the table below, it is difficult to discern a clear and compelling pattern to suggest that BXM would usually greatly underperform or outperform the S&P 500 in low-volatility or high-volatility environments.
PANEL DISCUSSION ON MARCH 4TH
On Monday, March 4 in California at the CBOE’s 29th Annual Risk Management Conference (www.cboeRMC.com) these three panelists will discuss several topics related to options writing, including the issue presented in this blog —
- John Colville, Chief Investment Officer, City of Sacramento
- Scott Maidel, Senior Portfolio Manager and Trader, Equity Derivatives, Russell Investments
- Victor Viner, President and CIO, V2 Capital
I recently spoke with a couple of option-writing money managers about the issue and topics above. They noted that it can be difficult to generate high gross premiums in times when the VIX Index is low, and that in environments when realized volatility is high, there can be whipsawing in portfolios that can pose challenges to option writers, At times in which there are strong bull markets for stocks, buywrite positions can rise, but often will not rise as much as stocks.
Both the managers told me they thought that a low VIX is not necessarily bad for option writers — buywrites have the potential to do relatively well in times in which the VIX is low but realized volatility is even lower. Recent papers by Hewitt EnnisKnupp and Asset Consulting Group noted that implied volatility was higher than realized volatility in most years in the past decade. The table and chart above both show that there have been years in the past in which VIX was relatively low and the BXM had positive returns that sometimes were higher than those of the S&P 500.