Market Measures

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Short Premium vs. Implied Volatility

Market Measures

We recently showed in a Market Measures segment that the movement in the S&P 500 Volatility Index (VIX) has not seen a historically strong relationship to the profits/losses in a short strangle trade. This seemed a little surprising since short strangles carry short vega positions and thus the options prices will change with rises and falls in implied volatility. This is why we especially like to sell options in high IV since the premium is larger and we can move further out from the at-the-money strike when selling 1 standard deviation strangles.

Today Tom dives into why these short strangles might not have been so affected by rises and falls in IV in the past. We are looking at the following trade:

  • S&P 500 ETF (SPY)
  • 2005 to present
  • Sold 45 DTE 16 delta strangles
  • Comparing movement in VIX and SPY when trades lost

We found that the change in VIX was quite minimal on average whether the strangles won or lost. And actually the VIX only rose about 44% of the time when the trade did lose. The trade seemed much more affected by movement in the underlying than it did by movement in IV. Thus we still sell premium in liquid, diversified markets like SPY in all environments since we cannot predict when prices will move a lot or a little. Check out the video for greater details.

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