Weekly Options – VIX
For years market makers and professional traders have used index put options (and most recently the newer weekly options) as a way to hedge against their entire portfolio.
In a portfolio where there are many different trading vehicles and underlings – rather than purchasing regular or weekly options puts for each particular underlying – a faster and less intensive – yet still effective method of hedging that entire portfolio is to simply purchase put options (either regular one month out or weekly options) on the index (for example SPX, RUT, DJX, QQQ) that behaves most similarly to how most of the underlings in your portfolio behave – or how your portfolio behaves most as a ‘whole’.
Weekly Options – A Better Hedge
Another ‘newer’ way to hedge an entire portfolio is to simply use the VIX – by buying VIX call options.
Usually when the market drops – the VIX goes up – and it can shoot up very quickly.
So rather than purchase index puts on whatever index reflects your portfolio – you could instead purchase VIX calls – and if/when the market drops – the VIX can move so quickly to the upside – one can make a very nice quick return from the ‘explosion’ in those VIX calls.
In the video from Larry McMillan (you can access this video in full from our free weekly options members resource area on our site here) – Larry gives an example / statistic that says if you had bought the one month VIX call 7 points out of the money starting in 2006 (this is when the VIX starting trading) – and if you had just bought that monthly VIX call seven points out of the money and each month you just rolled it over – month after month – you would be ahead right now around $3,000.00 on that trade.
This had to do with the fact that because VIX is so volatile and because it can move so quickly when markets drop – like in the crash of 2008 and the infamous ‘flash crash’ and several other drops – now including I am sure the recent August 2011 drop – the money that was made during those times easily paid for this sort of protection.
Weekly Options – Only Around 20%
The other interesting insight that he made was that when hedging with VIX call options one doesn’t need to hedge their entire portfolio – one can only hedge around twenty percent or so (of the ‘net asset value of the portfolio) and that’s because of the way how it is so volatile that when ‘something happens’ and the market suddenly drops or fear comes into the market – the VIX explodes so violently and fast that only around twenty percent can ‘blow up’ and make up the difference in what is needed to fully protect or hedge.
So whether you have a stock only based portfolio – or you are an option trader – of income trades like the iron condor, credit spread, calendar spreads, straight call plays, ect – consider using the VIX as another tool in your weekly options trading toolbox.