Cape Contango

• Posted by Adam Warner
• on July 13th, 2010

OK, it’s offically getting ridiculous, the VIX futures premiums.

October is roughly 3 month’s (and change) away, and the VIX futures are roughly $8 Nov even higher than that.

Pretty clearly Mr. Market expects a volatility pause this summer, followed by a return to Excitement this Fall. That’s normally a safe assumption as summer is the lowest vol. time of year. What stands out now though are two things.

One is the magnitude of the expected volatility pop. 3-4 points I could easily see. But 8 points? That’s some serious Fear.

The other is the fact that it’s a somewhat high level. VIX in the 24′s is modestly high historically. VIX in the low 30′s is very high, and that’s where the market thinks we’re going.

The biggest question though is what does it mean. Are Oct. and Nov. VIX futures buyers are sign of smart money and bearish (for the market) or are they a sign of too much Fear and bullish? I would personally lean towards the latter interpretation. I’m more willing to agree with the smart money angle on an individual stock, like if someone’s buying up every call in sight in XYZ, I wouldn’t go short XYZ. But on a more macro level? I tend to think the crowd is wrong. But of course, I may have this dead wrong. In 2008 Fear led the market lower. Earlier this year Fear jumped ahead of the market dip. Over time, Fear is a fade, just not every single time.

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