Traders are betting big on a stock market shock

shock electricity David Blaine
live look at a trader seeking a stock market


Volatility traders haven’t been this sure of a stock market shock
in almost two years. 

These investors buy and sell options on the CBOE Volatility
— or VIX — as they predict swings (or a lack of) in the
SP 500. The VIX typically spikes when stocks decline, and
falls in a steadily rising market. And right now traders are not
betting that things will stay quiet. 

The cost of bets on a quiet market — used either as hedges by
traders who expect volatility, or as directional wagers on fewer
price swings — is lower than its been at any point since October
2015. That’s relative to the cost of an increase.

In other words, volatility traders have taken the restrictor
plates off their bullish VIX bet, and are fully embracing the
idea of a stock market shock.

This degree of confidence over increased turbulence has
manifested itself in the exchange-traded fund market. That’s home
to the
iPath SP 500 VIX Short Term Futures ETN
, the biggest and
most heavily-traded VIX-linked product, which absorbed a net $219
million last month. To put the inflows in context, consider that
the long-VIX instrument saw a $41 million outflow in the six
weeks leading up to July.

vix skew
on a VIX decline are at the lowest since October 2015, relative
to wagers on an increase. This is a bullish signal for the VIX,
which can be read as investors expecting a stock market

Business Insider / Andy Kiersz,
data from Bloomberg

These latest developments come on the heels of several
high-profile bullish VIX wagers.

The week before last, a mystery trader made a
massive bet that the VIX will surge
. If successful, it would
yield a $262 million payout, according to a person familiar with
the trade. The investor implemented a bullish call spread
strategy using hundreds of thousands of VIX options.

And then there’s the
recently-unmasked volatility vigilante, 50 Cent
. He’s been
spending hundreds of millions of dollars to buy exposure on a VIX
spike, but doing so in bite-sized pieces.

VIX bullishness extends to Jeffrey Gundlach, the founder of hedge
fund DoubleLine Capital. He said last week that
his firm purchased some five-month put options
on the SP
500 as the
VIX sunk to a record low

“This is like free money,” said Gundlach, who is known on Wall
Street as the Bond King. “We are in a seasonally weak period for
stocks but more importantly, we think the VIX was really, really
low. So the SP puts are going long volatility.”

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