Daily Commentary - Posted on Friday, September 12, 2014, 6:19 AM GMT +1

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Sep Friday 12

RVX and VXEEM – Gap Closed (Reversion To The Mean)

A couple of weeks ago ( on Juli 11, 2014 – see RVX and VXEEM – Reversion To The Mean ? ) I posted about an arising opportunity in CBOE Russel 2000 Volatility Index® (RVX®) and the CBOE Emerging Markets ETF Volatility Index® (VXEEM®) futures due to the fact that the gap between the CBOE Russel 2000 Volatility Index® (RVX®) and the CBOE Emerging Markets ETF Volatility Index® (VXEEM®) widened to a so-far all-time high.

While the market’s expectation of 30-day volatility implicit in the prices of iShares MSCI Emerging Markets Index near-term options (implied volatility) is regularly (≥ 95% of the time, see Image II) well above the market’s expectation of 30-day volatility implicit in the prices of near-term Russell 2000 options (means RVX – VXEEM is negative most of the time), on July 10, 2011 the former led to something like an ‘inverted volatily curve‘, posting a new all-time high on July 10, 2014.

 

 


Image I
Gap between CBOE Russel 2000 Volatility Index® (RVX®) and
CBOE Emerging Markets ETF Volatility Index® (VXEEM®) on July 11, 2014

My comment on July 10, 2014: “If you believed the gap will revert to its mean sooner ar later (better sooner, at least until October 21, 2014), a possible strategy would be to go long CBOE Emerging Markets ETF Volatility Index® (VXEEM®) futures and short the apropriate number of CBOE Russel 2000 Volatility Index® (RVX®) futures (they have different multipliers!). On July 10, 2014 the respective pairs closed (settlement values) for a positive difference of (expiration – difference): AUG’14 – +2.00 , SEP’14 – +1.70 , OCT’14 – +1.45 . The trade would make money if the gap between the CBOE Russel 2000 Volatility Index® (RVX®) and the CBOE Emerging Markets ETF Volatility Index® (VXEEM®) reverts (assumed the respective futures pair bought/sold short follows suit) and closes (and you could get out of the trade) at least below +2.00 | +1.70 | +1.45 at any time until futures expiration.

Two month later not only the gap between both volatility indexes (and futures) has been completely closed, it posted a 3-month low and may be on its way to another extreme on the opposite site.


Image II
Gap between CBOE Russel 2000 Volatility Index® (RVX®) and
CBOE Emerging Markets ETF Volatility Index® (VXEEM®) on September 11, 2014

The respective pairs (CBOE Russel 2000 Volatility Index® (RVX®) futures vs. CBOE Emerging Markets ETF Volatility Index® (VXEEM®) futures) are now trading for (settlement prices):
SEP’14 : -1.75 (+1.70 on July 10, 2014, a +3.45 gain per futures contract)
OCT’14 -0.85 (+1.45 on July 10, 2014, a +2.30 gain per futures contract)

 

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Have a profitable week,

Frank


Disclosure: No positions in the assets mentioned in this post.

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Remarks: Due to their conceptual scope – and if not explicitly stated otherwise – , all models/setups/strategies do not account for slippage, fees and transaction costs, do not account for return on cash and/or interest on margin, do not use position sizing (e.g. Kelly, optimal f) – they’re always ‘all in‘ – , do not use leverage (e.g. leveraged ETFs), do not utilize any kind of abnormal market filter (e.g. during market phases with extremely elevated volatility), do not use intraday buy/sell stops (end-of-day prices only), and models/setups/strategies are not ‘adaptive‘ (do not adjust to the ongoing changes in market conditions like bull and bear markets). Index data (e.g. S&P 500 cash index) does not account for dividend and cash payments.

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Disclaimer

The information on this site is provided for statistical and informational purposes only. Nothing herein should be interpreted or regarded as personalized investment advice or to state or imply that past results are an indication of future performance. The author of this website is not a licensed financial advisor and will not accept liability for any loss or damage, including without limitation to, any loss of profit, which may arise directly or indirectly from use of or reliance on the content of this website(s). Under no circumstances does this information represent an advice or recommendation to buy, sell or hold any security.

I may or may not hold positions for myself, my family and/or clients in the securities mentioned here. Actions may have been taken before or after information is presented, and any opinions expressed in this site are subject to change without notice.

(Data courtesy of MetaStock and Pinnacle Data Corp., and for data import, testing, surveys and statistics I use MATLAB from MathWorks)

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