You have come to the right place if you are in Denmark and would like to start using the VIX to begin ETF trading. We have created a quick guide that explains what a VIX is and how to use it.
What is a VIX?
A VIX is a volatility index that measures the expected 30-day change in the S&P 500 index. It is updated every 15 seconds and can be used to make buy/sell decisions on options and an ETF such as stocks.
Where do they come from?
They are modelled after the CBOE Volatility Index (IND: VIX), which began trading in 1993 but was created by financial economists including Dr Lawrence Whittlesey of Yale University, Robert E Whaley of Carnegie Mellon University, William L Wilcke of New York Stock Exchange (NYSE), John O’BrienO’Brien of Barra and Art Lipson at CBOE. The value of a name like “Vix” is one reason why acronyms are used in finance.
How do you use them?
You can use them in a variety of different ways to make buy/sell decisions on options and stocks:
For option buyers, the VIX shows how much prices will move in the underlying index during the option’s lifetime. It is helpful because we know by definition that buying at-the-money straddles is a neutral volatility position.
However, the primary use is for option sellers concerned with being “short vega”. Here they define how many units of negative vega they want to sell per unit time (for example, one month) and then try to minimize their theoretical loss when things go wrong.
How do you calculate them?
The VIX is a weighted average of implied volatility on S&P 500 index options. It is computed from both calls and puts, with each type having equal weight. The weights are the implied volatilities observed at a given point for near-term options with more than 22 days to expiration.
What is volatility in trading?
Volatility can be seen as a statistical measure of the rate at which price changes. The more volatile the market is, the more comprehensive the prices range over a given period.
You can measure it in various ways:
Standard deviation is one such measure, and it indicates how widely values are dispersed from the average value. It means that if prices go up and down a lot, the standard deviation will be high.
The square root of standard deviation (known as volatility) is another way to measure volatility and indicates whether high or low levels of volatility indicate higher or lower risk levels.
How does all of this come together?
By definition, the VIX must be a non-decreasing function of market volatility. So if we think about delta hedging, we know that as volatility increases, our Delta will become more hostile and vice versa:
So: ΔVIX = -ΔDelta (you can also rearrange this equation to see how changes in volatility affect ΔVix)
If we consider selling options with positive vega, then higher levels of implied volatility mean that our portfolio is getting riskier, and we want to trade less of it. It means that for every 1% increase in the VIX, the seller should reduce his position by 2%. Let’sLet’s take an example: If Delta is 10%, you would need to sell 20% less of your position if implied volatility increases by 1% (negative vega)
Another way to look at it is that it would take an increase of 20% in the VIX to neutralize the effect of a 10% decrease in Delta. So, when you sell options against positive vega, you can think about changes in the VIX as de-risking your portfolio (e.g. selling less) or de-leveraging your portfolio (e.g. shortening Deltas).
How is it used in Denmark trading?
Investors use VIX’s to buy or sell options on Danish stocks or trade-in futures markets. It allows them to bet against a specific stock price movement in a particular time frame, with protection if that movement doesn’t happen as expected.
Conclusion
The CBOE Volatility Index, or VIX, is a popular measure of the market’s expectation of 30-day volatility. Higher values indicate greater expected volatility. Since it is an average of the implied volatilities on options listed on the S&P 500 index, this is often called “the fear index” by traders.
VIX’s are used in Denmark trading to make buy/sell decisions on options and stocks. You can also think about them as de-risking your portfolio (e.g. selling less) or de-leveraging your portfolio (e.g. shortening Deltas).
