What a difference a month makes. Back in April we were writing about the year-to-date rise in options volume following market volatility over the situation in Ukraine.
Fast forward to the end of May and we’ve seen that volatility all but disappear (even though the conflict in Ukraine still lingers on).
In fact, U.S. stock market volatility, represented by the CBOE Volatility Index (VIX), has now fallen to its lowest level since September 2013 and is not that far away from the lowest level it has ever been.
At the same time, U.S. stock markets have continued to cruise higher despite economic data showing the economy contracted last quarter for the first time in three years. With markets poised to enter a crucial time, our team of options traders have come up with these three options plays.
As I’ve already mentioned, the VIX (now at 11.57) is currently trading at historical lows and has not been above 14 since the The move has seen the VIX drop to the low end of it’s seven-year range and comes as US stock markets have hit record highs.
Look at any chart of the VIX and you will see that levels below 12 rarely last very long and this has been particularly true over recent years. Whenever the VIX drops to such a low level, it is a clear signal of complacency and often an accurate precursor for renewed market volatility.
Think back to last summer’s Fed taper concerns, the Eurozone debt crisis in 2011, or the GFC in 2008 and you’ll notice that all three events started shortly after the VIX had dropped to low levels. This time around, we are also seeing a drop in trading volume on the main exchanges (20% lower than average) and extreme levels of investor confidence too.
The VIX remains a great contrarian indicator and one way to play it is to buy the ProShares Short VIX Short-Term Futures ETF (SVXY). This ETF tracks the inverse of the VIX and should capture nice profits when the VIX spikes back up, as it surely will do over the next couple of weeks. The stock market cannot continue to go up indefinitely and is due a correction by any reasonable standard.
Source: Yahoo Finance
Gold ETF – August Calls
If we are right about the stock market, and a significant correction is indeed around the corner, a potential benefactor will most likely be gold.
Gold has been consolidating so far in 2014, after a couple of tough years that saw the metal almost halve in value.
But, in light of aggressive monetary action around the world, gold is still in a good position and has shown clear signs of bottoming this year. When stock market volatility returns, gold will likely rise, and a good way to lock in those profits is to buy the August calls.
3D Systems (DDD)
3D Systems has been one of the most volatile stocks of the year and has seen its share price fall around 47% from Jan. 1. The stock has been a favorite among momentum players and speculators who bid the stock up heavily in 2013.
Traders became nervous earlier this year when the company entered into too many mergers and reported earnings that sharply missed estimates.
However, the stock looks to have bottomed now and has remained steady even after management issued new shares.
The momentum players and speculators may well still be around and that means the stock could quite easily turn upwards quickly. Traders should look to buy October calls.