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The demand for puts increases the levels of volatility, and it’s really a measurement, the fear – as you see, there’s a couple of spikes in this chart, where the volatility rose to a level that was slightly unusual for this time period. If we go back many years, you can see that these price levels are probably some of the highest that we’ve seen, in over 5 years. This represents a lot of fear in the market. Many more people are buying puts, at these points, than ever before.
Now, we’ve gotten to the point where volatility has come down, from approximately the 36 level, to the 19 level. That’s a dramatic decline in the volatility levels, over the last few months.
Let’s take a look at how it translates into actual market activity. Actual market activity over the past few months, has actually done the opposite of the VIX. When people are no longer afraid, they don’t buy puts anymore. The market is actually starting to go up, so it acts opposite of actual market direction.
There’s the VIX. You can see it’s been going down. Here’s the Dow Jones Industrial Average. You can see it’s been going up.
The Vega, as measured as a variable for our option position, should be relatively neutral, like Delta. If Delta were to increase dramatically – either negatively or positively – we would have to take action, in order to try to get Delta back to a fairly neutral level.
The 25 level that we’re currently at for Delta, I would consider to be a fairly neutral position. I would like to be slightly long Delta, in this environment, because the market is going up. But our slight negative position is not going to harm our position that badly, to warrant an adjustment.
Our Vega position, at a positive 53, means that as long as the market continues to rise, and we are long Vega – now, Vega acts opposite to the direction of the market. When the market goes up, Vega goes down. If you’re long stock, what happens to your position when the market goes down?
You lose money. If we are long Vega, the only way we can make money, is if prices in the market go down, and there’s more fear. Then, we make a $53 additional profit, for each point the Vega goes up.
When this Vega number on our overall portfolio goes to extreme levels of +100, 200, or even 300, then any change in the volatility of the market could drastically and dramatically affect our position and profitability. We want to try and keep this, as well, as neutral as possible.