Options trading basics teaches us that the VIX or CBOE Volatility Index reflects the market’s expectation of the upcoming 30-day volatility. It measures market risk and is also known as the investor fear gauge. With this in mind, option-sellers are faced with a dilemma. Increased market volatility will translate into higher option premiums because the time value component of the premium is directly related to implied volatility. On the other hand, a high overall market volatility increases our risk as share value can plummet and erase our initial gains. The VIX mirrors degree of anticipated price movement but gives no information on direction. So, is a higher VIX a positive or a negative?

 

How can we learn from the crash of 2008?

One question that is frequently posed to me is that if the VIX is low do we stop selling calls because of lower premiums? This implies that a high VIX is a positive for covered call writers. Let’s take a look at an extreme example in 2008 when the VIX went from the 20 – 30 level to the 70 – 80 level in the last 4 months of the year:

VIX in 2008

Quadrupling of the VIX in 2008

 

As a general rule, the VIX and the performance of the overall market (S&P 500) are inversely related as demonstrated in the chart below where the market took a dive in the last 4 months of that year:

Market Crash of 2008

 

VIX and covered call writing

Covered call writing is a conservative strategy and those who use it are generally conservative investors looking to generate cash flow with capital preservation in mind. As such, a high VIX is no friend of option-sellers although we can use our common-sense principles to manage those scenarios. A low VIX (under 20) is usually a positive for us because it means a more stable market and oftentimes a rising market as we experienced since early 2009.

 

How to manage a high VIX

We can “stay in the game” by selling in-the-money call strikes and deeper out-of-the-money put strikes, using options with lower implied volatility (set goals at 1 – 3% instead of 2 – 4% as an example).

 

How to manage a low VIX

This is one of the factors that will give us the confidence to take a more bullish stance and sell at-the-money and out-of-the-money call strikes and closer to at-the-money put strikes as well as higher implied volatility options.

 

Real-life example with Boyd Gaming Corporation (NYSE: BYD)

The yellow rows in the option-chain below reflects appropriate choices with a high VIX (bearish) and the brown rows highlight appropriate choices when the VIX is low:

BYD Option-Chain for 2/21/2020 Expirations

 

The exit strategies selected in these environments are detailed in my books and DVD Programs.

 

Discussion

The VIX is a factor that should be considered in our option-selling decisions. It should neither be feared nor embraced but rather managed using the fundamental, technical and common-sense principles of the BCI methodology.

 

Upgrades to our premium member ETF reports

Starting this week, The BCI team has added additional information and changed the format of our weekly premium member ETF Reports, thereby enhancing the quality of these reports and making them more user-friendly and time-efficient. Here is a link to a video overview of these new upgrades:

https://youtu.be/-wgqoyjP5bQ

 

New ETF Spreadsheet

 

Your generous testimonials

Over the years, the BCI community has been incredibly gracious by sending our BCI team email testimonials sharing stories as to what our educational content has meant to their families. Moving forward, we have decided to share some of these testimonials in our blog articles. We will never use a last name unless given permission:

Hi Alan,

I recently discovered your content and am finding it incredibly useful.

Keep up the great work.

Kai (Hong Kong)

 

Upcoming event

Sacramento Options Traders webinar

Covered Call Writing with 4 Practical Applications

Sunday July 19th

12:30 – 4 PM

Login information to be sent to registered members (club and premium members)

 

Alan speaking at a Money Show event

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Market tone data is now located on page 1 of our premium member stock reports and page 8 of our mid-week ETF reports.

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