VIX ETFs: The Facts and Risks

how to trade the vix

Be sure you feel thoroughly prepared and confident enough in your trading plan to risk real money. Selling options premiums generally involves receiving premium income in return for accepting risk, which can be unlimited if you sell naked options. Buying premium means that you expect a move in the market that would make the options you own appreciate significantly in value.

However, as expert traders at Engine forex point out, the two key extremes of the VIX are known ahead of time that makes it a lot more complicated than it visually appears to be. As such, traders try to trade the VIX by trading products that track the volatility index. The VIX uses the S&P 500 Index (SPX) options to capture the expected volatility for the next 30 days. The index uses the two options expirations that have more than 23 days and less than 30 days to narrow down on the 30-day timeframe.

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The views and strategies described in our content may not be suitable for all investors. Because market and economic conditions are subject to rapid change, all comments, opinions, and analyses contained within our content are rendered as of the date of the posting and may change without notice. The material is not intended as a complete analysis of every material fact regarding any country, region, market, industry, investment, or strategy. When the VIX is up, it means that there are significant and rapid price fluctuations in the S&P 500.

We believe everyone should be able to make financial decisions with confidence. Other inverse ETFs make use of S&P 500 VIX Mid-Term Futures as an index. Products like the now delisted VelocityShares Daily Inverse VIX Medium-Term ETN (ZIV) managed to bring in returns of almost 90% in 2017 thanks to this strategy. One of the most common VIX trading strategy used for portfolio hedging is using VIX calls. Instead of buying S&P 500 puts a more effective way to prepare for a market downturn is to use VIX calls.

how to trade the vix

The VIXM is designed for knowledgeable investors with a short-term investment goal or who may want to hedge their equity exposure. Realizing the generally negative correlation between volatility and stock market performance, many investors have looked to use volatility instruments to hedge their portfolios. In this article, we’ll review four ways you can trade the VIX using specific exchange-traded funds and exchange-traded notes. However, what followed shortly after was a period of low market volatility as normalcy returned with most of the investors having exhausted their investment capital. Since then the VIX has traded within what appears to be a tighter range and this indicates high levels of market stability.

We recently saw SVXY’s brother ETP, XIV get terminated by Credit Suisse after a more than 80% drop in its price. The price of SVXY recently dropped from over $100 to $12 in a matter of days. Decide whether to open a spread betting, CFD trading or share dealing account. If there was volatility, your prediction would have been right, and you could take a profit. However, if you had taken a long position and there was no volatility on the market, your position would have suffered a loss. Like spread betting, CFDs are leveraged trades, so your losses or profits could outweigh your initial deposit amount.

How to Trade the VIX: 4 Ways Explained

The VIX is mostly used as an indicator of market health, similar to the S&P 500 or Dow Jones Industrial Average. While it has application in this realm, most traders and investors are unaware of the trading opportunities presented by the VIX and its many derivatives. A call option would give you right to buy the S&P 500 at a specific price, while a put option would give you the right to sell the S&P 500 at a specific price.

While the VIX only measures S&P 500 volatility, it is commonly used as a benchmark for the entire US stock market. The price of options is considered a good measure of volatility as if something concerns the market, traders and investors tend to start buying options, which causes prices to rise. This is why the VIX is also known as the fear index, as it measures the level of market fear and stress. When options traders think the stock market is likely to be calm, the VIX is low; when they expect big swings in the market, the VIX tends to go up. Many professional investors, hedge fund managers, individual traders and speculators use the VIX to measure market risk ahead of taking action in the stock market.

Trading Instruments

The more investors that start to use the VIX options, because the market is believed to go down, the more these VIX options will expand. In other words, investors will need to pay more from the options point of view in order to protect against the risk. Investors typically buy VIX calls as a portfolio hedge against a rise in volatility. On the cautious side, trading VIX options needs to be done properly because volatility can be pretty sporadic.

When the VIX is up, it means that there are significant and rapid price fluctuations on the S&P 500. The VIX typically has a negative correlation with the S&P 500, so in periods of market stress, the VIX increases. Spread betting is a form of leveraged trading, meaning you would put down a small deposit (called margin) to open a larger position. However, leveraged trading is not without risk, as your profits or losses can easily outweigh you deposit. This is because both are calculated on total position size, not your margin amount. Volatility is a measure of the movement of an asset’s price, rather than the price of the asset.

This then indicates the wider market sentiment surrounding the direction of the market price. To be considered for the VIX index, an option must have an expiry date between 23 and 37 days. The VIX works by tracking the underlying price of S&P 500 options – not the stock market itself. Below you’ll learn what S&P 500 options are, how the VIX is calculated and what its value means.

  • Volatility moves markets as reliably as price or volume, expanding and contracting over time in reaction to fear and greed.
  • Commodity-related products, including futures, carry a high level of risk and are not suitable for all investors.
  • The Cboe Global Markets (Cboe) has created a handy financial tool to track market volatility, known simply as Volatility Index, but better known by its acronym, the VIX.
  • We have not established any official presence on Line messaging platform.

Its articles, interactive tools and other content are provided to you for free, as self-help tools and for informational purposes only. NerdWallet does not and cannot guarantee the accuracy or applicability of any information in regard to your individual circumstances. Examples are hypothetical, and we encourage you to seek personalized advice from qualified professionals regarding specific investment issues.

What is VIX?

A demo account can help you learn how to trade options and to develop and test option trading strategies. Interactive Brokers is one of the most affordable brokers to trade options through if you have a large enough margin how does forex work deposit to qualify for an account. You can also trade VIX futures in your Interactive Brokers account at $1 per option. Interactive Brokers also offers tiered commission for traders who do large-volume trading.

Once you’re happy that your strategy would work on live markets, you can upgrade. Spread bets and CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 70% of retail investor accounts lose money when trading spread bets and CFDs with this provider. You should consider whether you understand how spread bets and CFDs work, and whether you can afford to take the high risk of losing your money.

VIX ETFs are highly risky, but when traded carefully, they can prove to be lucrative. Please note that the best way to trade VIX comes down to your current position and market conditions. One VIX trading approach might work only when the market conditions suit that strategy while when the market conditions change you can get different results. Since we have identified a bullish trend, we want to ride the trend at the ideal spot.

As this decay takes place, these ETFs have less money to use to roll into subsequent futures contracts as existing ones expire. As time goes on, this process repeats itself multiple times, and most VIX ETFs end up losing money over the long term. One of the most popular VIX ETFs is the iPath S&P 500 VIX Short-Term Futures ETN (VXX). This product maintains a long position in first- and second-month VIX futures contracts, which roll daily. VXX tends to trade higher than it would otherwise during periods of low present volatility as a result of the tendency for volatility to revert to the mean.

Can I buy VIX?

Let’s say that you have a long position on the stock of a US company that was a constituent of the S&P 500. Although you believe it has long-term prospects, you want to reduce your exposure to some short-term volatility. You decide to open a position to buy the VIX with the expectation that volatility is going to increase. But the index is forward-looking, which means that it only shows the implied volatility of the S&P 500 (SPX), also known as the US 500 on our platform, for the next 30 days. IBD spoke to Nick Cherney, head of exchange traded products at Janus Capital Group, about how VIX products can be used to trade long and short, to hedge and to manage risk.

This severely elevated VIX level shows that there was a very significant concern in the markets about how serious the equity market turbulence could become. The S&P 500® Index is a market-capitalization weighted index that consists of 500 widely traded stocks chosen for market size, liquidity, and industry group representation. 1The Chicago Board Options Exchange Volatility Index® (VIX®) reflects a market estimate of future volatility. VIX is constructed using the implied volatilities of a wide range of S&P 500 index options.

It’s time to reevaluate positioning when the moving average changes direction because it foretells reversals as well as completion of price swings in both directions. The price line can also be used as a trigger mechanism when it crosses above or below the moving average. One issue inherent in VIX ETFs is that the VIX itself is more accurately described as a measure of “implied” volatility, rather than volatility directly. Because it is a weighted mixture of the prices for different S&P 500 index options, VIX measures how much investors are willing to pay to be able to buy or sell the S&P 500.

As a result, most brokers require considerably more margin if you wish to take short options positions. If that presents an issue for you, option spreads let you sell an option against another purchased option, so it requires that you both buy premium and sell it, although at different strike prices. A good way to get familiar with how the index trades is to watch it during periods of market uncertainty. Do this during a major stock market selloff, as shown in the image below, or after the release of a significant economic number. Similar to VXX, the returns for VXZ are better in the short term versus the long term. Below are the performance returns based on available time periods as of June 30, 2023.

As an ETN, VXZ avoids tracking error but may expose investors to credit risk. The VIX is based off of option prices, and tells us about the “implied volatility” of the equity market. The most important instrument people use to actually trade equity volatility is VIX futures (and exchange traded products, or ETPs, linked to VIX futures). Investors often worry about market volatility—especially the kind of big negative moves seen during the credit crisis of 2008 or at the onset of the COVID-19 pandemic in early 2020. The VIX has been around so long it feels like part of the scenery if you’re an active trader. But it’s a relative newcomer to Wall Street; this year, it’s celebrating the 30th anniversary of its 1993 introduction.