The S&P 500 has “bumped its head” in a clear resistance level. The VIX Index has dropped into a familiar support level. Is the party over? I hope not. I would love to see the stock market keep heading higher. But hey, warning signs are warning signs right?
(See also The U.S. Dollar and The Line in the Sand and The Value of the ‘Perspective’ Indicator)
So should we all panic? Not necessarily. Still – and fortunately – there is a difference between “being panicked” and “being prepared”. So let’s talk about a simple hedge, “just in case” the stock market decides to sell off in the not too distant future.
The chart below displays SPDR S&P 500 (NYSE:SPY) with a fairly obvious resistance range highlighted. As the verbiage on the chart asks, will you be surprised if the market pauses (or worse) here?
The chart below displays iPath S&P 500 VIX Short-Term Futures (NYSE:VXX) - the ETF that ostensibly tracks the VIX Index. From a completely and entirely subjective point of view it can be argued that the VIX is in “the calm before the storm” mode.
The chart below displays that the implied volatility for options on VXX has fallen significantly, and VXX options are relatively cheap.
So what about buying the June VXX 16 call for $200 as a hedge against the stock market suffering a hit between now and the June option expiration?
The figure below displays the particulars, and the one below it displays the risk curves.
Summary
As always, I am not “recommending” this trade, I am simply pointing out that several factors (S&P at resistance, VIX at support, option premiums relatively low, and don’t forget “Sell in May” which is just around the corner) may be coming together to make considering a hedge a reasonable idea.
The questions to ask yourself are:
*Do I think there is a chance/likelihood that the S&P will suffer a selloff in the next 7 weeks or so?
*Am I willing to risk $200 if it doesn’t?