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HIPOS Weekly Update: We’ve Reached the Endzone

By Derek Moore

With expiration day upon us Friday February 1st, the Iron Condor position appears to be poised to realize a full profit. Since we sell premium and generate credits, a full profit is realized when they expire worthless. And yes, the title of this article was an attempt to relate Sundays Super Bowl to something totally unrelated.

Much of the premium in the positions had already come out except for some remaining time value as markets stayed within both the upside and downside short strikes. What started out as a single short call spread morphed into an Iron Condor after the traders found a short put spread that also qualified on the S&P 500 Index. 

We don’t make an effort to time the markets or make predictions about where a market will go. Instead we focus on hedging in our core strategies while selling out of the money premium on either side of the market within HIPOS. This is another way of saying we didn’t have a prediction of what side (call or put) the position might move toward.   

As it turned out, the market after Thursdays close sits just under 2.7% away from the short strike level. Compare that with the short put side which sits 13% out of the money after the close of the index. Baring something extraordinary the total position will expire worthless tomorrow.

Towards expiration day I usually like to try and bring in a question we’ve received recently about selling volatility. One I get asked quite a bit is:

How does the level of the VIX Index effect HIPOS?

3-month VIX Index (CBOE Volatility Index) chart

As we can see by the 3-month chart above of the VIX Index (CBOE Volatility Index), after touching the 35 level in December, volatility has been marching lower where it closed Thursday at 16.57. The VIX remember is a measure of the level of premiums on the near-term options tied to the S&P 500 Index. When there is more fear, the option premiums jump, and the index rises. When there is less fear in the market, the cost of options drop, and we see the index fall.

Typically, the higher volatility, the more premium we can collect, and the further we can sell spreads away from the market.  Another item to understand is the current 16.5 level is still closer to the average historical level versus what we saw in 2017.  In 2017, we saw VIX Levels break 10 (Doesn’t Happen Much!), we consider this VIX level more of a normalized volatility range.

The other thing to always remember is that we are not required to always have a HiPOS short spread executed in the strategy. Often, we might see a trade expire and after expiration we cannot find a trade that qualifies.   If this occurs, we wait until we can capitalize on a short term volatility spike to re-enter the market. 

We will be back next week with another update. Until then the ZEGA trading team is already evaluating prospects for another position. Enjoy the Super Bowl!