The S&P 500 set three record highs last week, you may not be aware since there was not very much fanfare surrounding record closing high numbers 39, 40, and 41 for 2014. Also, Friday’s record was almost a rounding error to the upside relative to Tuesday’s record. Sticking with a theme I latched onto last week the VXST – VIX – VXV – VXMT term structure curve below has an extra line on the bottom. The purple line shows the average closing 2014 term structure on days where a record high was set for the S&P 500. The other two lines show the same term structure for the past two Fridays, both of which were record setting days. I’ll just note what I pointed out a week ago, risk perceptions are high considering the S&P 500 is at all-time highs.
Even though VIX moved higher last week the long oriented exchange traded products was a victim of the November and December VIX futures contracts drifting lower. Note that November VIX expiration is this week so VXX and all the other long ETPs will be comprised of December and January 2015 VIX futures this time next week.
In the ETP space, there was a trade that will benefit if low VIX is the norm through Boxing Day (the day after Christmas). Someone came in and purchased almost 10,000 of the VXX Dec 26th 24 Puts for 0.17. In order to hit break even, 23.83, VXX needs to drop 16.71% in 28 trading days. That sounds like a lot, but VXX grinds lower in low volatility environments. Armed with those statistics and price history for VXX and the index VXX is designed to replicate I went to work. Using data going back to late 2005 I found that over 2207 rolling 28 day periods VXX dropped over 16.71% 620 times or just over 28% of those periods. Those numbers put a little different perspective on the payoff diagram below.