Term structure is the curve that shows all the different expiry months’ prices of a particular futures contract.
Today, we will look at the VIX term structure which measures traders’ perceptions of 30 day volatility X days in the future.
Given that roughly 80% of the time the term structure is in contango, can we sell(short front month volatility) when term structure is in backwardation to bet on it returning to contango?Study
- 2005 - 2017, Closest to 45 DTE
- 16 Strangles
- Compared selling strangles:
- All market scenarios
- VIX Term Structure in Backwardation
It seems that selling when VIX was in backwardation yielded higher P/L. This does not mean we have to look for VIX term structure, however.
Looking at the relationship between VIX and the times where the term structure is backward, we see that a backward term structure correlates perfectly with high IV. Thus we can just use IVR as a proxy for term structure.