A $6 Million Deep-In-the-Money VIX Put Purchase Stuns Options Market Ahead of Fed Rate Decision

The largest options trade on the Cboe VIX Index on Tuesday was an eye-catching $6 million acquisition of deeply in-the-money put options — widely regarded as a speculative interest-rate play ahead of Wednesday’s highly anticipated Federal Reserve rate decision.

At approximately 10 a.m. Chicago time, an unidentified trader bought 563 110-strike VIX puts expiring October 21 for $5.1 million, along with $1.2 million worth of 130-strike puts expiring November 18 — the scheduled release date for next month’s FOMC minutes. Not only did the combined premium exceed every other single trade that day, the decision to purchase extremely deep in-the-money puts — particularly with the VIX closing the session at 17.2 — and with zero prior open interest, struck seasoned options professionals as genuinely unusual.

Deep in-the-money carries a significantly higher delta, meaning a greater probability of expiring in the money, which points to strong conviction that the VIX will move lower.

At face value, the position represents a bet that volatility will decline over the coming two months. The 110-strike puts cost $91 each and the 130-strike puts cost $110 each, bringing the total breakeven on the trade to just above $19.

Cboe Volatility Index, YTD

However, if these were standalone positions — which most traders interviewed said is unlikely — the trade might be more straightforward. Their guesses about what accompanying positions the buyer might hold varied widely.

“If someone is short a bunch of calls, they may buy puts and futures to mitigate risk,” said Noel Smith, founder and chief investment officer of Convex Asset Management, in a phone interview. “People buy these tiny VIX calls for 10 cents because if they go to 20 they can say they made a hundred. But the seller of those calls may have something else in mind — they have this wingy risk on the book they need to manage.”

When this peculiar trade is considered alongside other significant activity in VIX options, futures, and S&P 500 options, a compelling narrative begins to take shape: market-makers and major players across volatility products appear to be at odds over how to price the range of near-term outcomes, even as the bond market prices in an interest-rate hike at roughly 90% certainty.

Options volume in the VIX has run above average for nearly a week as the gauge climbed to just over 18 at its peak last Thursday. Yet daily swings in the S&P 500 have remained below one percent for five consecutive days, despite the VIX holding above 16 — which should imply a daily move of roughly one percent. Meanwhile, S&P 500 options are pricing in a move of just 0.8% at expiry on Wednesday, unusually low heading into a Federal Reserve meeting.

If one trusts the S&P options and recent trading patterns, it suggests the VIX may be overstated. Similarly, the gap between the VIX index and its futures as of Tuesday’s close was near the highest level since June.

The mysterious buyer of the deep in-the-money puts may be attempting to exploit this discrepancy by trading a spread between VIX options and the underlying futures, according to an explanation offered by SpotGamma’s Brent Kochuba.

“You can own that super deep in-the-money put against a long call and a long futures position,” Kochuba said. “As long as VIX stays under 110, you can lock in whatever the difference in price is between the option and the future.”

Source link