Latest / The Day Trading Podcast with Fexingo: Active Trading, Charts, and Short-Term Market Strategy / Why Day Traders Watch the VVIX-Carry Trade Now
Transcript
- Lucas: Alright, let's talk about something that's been quietly printing for a small subset of day traders lately — the VVIX carry trade. Luna: The carry trade on volatility of volatility. That's a mouthful. But I've been seeing chatter about it on the desk. Lucas: It's exactly that. And the setup right now is pretty clean, because we've got the VIX sitting around 15.81 — down one and a half percent over the last five sessions — while VVIX, which measures the implied volatility of VIX options, is actually up over four percent to 85.75. That divergence is the signal. Luna: So VIX is going down, but the cost to hedge VIX moves is going up. That's the carry opportunity. Lucas: Right. The trade is essentially: sell VIX call spreads — because you don't expect VIX to spike — and use that premium to buy VVIX puts. You're betting that the volatility of volatility will revert lower even if VIX stays calm. Luna: And historically, when VVIX gets above 80 while VIX is below 20, that reversion has happened within two to three weeks. Lucas: Exactly. I went back and looked at 2023 — we had a similar setup in October of that year. VIX was around 16, VVIX touched 95. Over the next ten trading days, VIX barely moved but VVIX dropped back to 70. That's a fifteen-point move in VVIX. Luna: Fifteen points on VVIX options that are priced cheaply because the term structure is in contango. That's a nice risk-reward. Lucas: The mechanics are straightforward. You look at the VIX futures curve — currently in contango, meaning front-month futures are below spot, and further months are higher. That's a sign that the market expects calm to persist. So selling VIX calls at, say, the 20 strike for the next expiration is collecting premium that's likely to decay. Luna: You're basically harvesting the time decay on VIX calls while buying cheap protection on the VVIX tail. Lucas: Exactly. And the VVIX puts you buy are typically on the VVIX index itself — you can trade options on VVIX through the CBOE. The typical entry is when VVIX is above 85 and VIX is below 18. That's exactly where we are this morning. Luna: What's the concrete structure? Let's say I want to put on, I don't know, a ten-lot. Lucas: Okay, so for a ten-lot, you might sell ten VIX call spreads: sell the 20-strike call, buy the 25-strike call, for the next monthly expiration. That might collect around fifty cents per spread, so five hundred dollars total. Luna: And then you use that five hundred to buy VVIX put spreads. Which strikes? Lucas: I like buying the 80-strike put and selling the 70-strike put on VVIX for the same expiration. That spread might cost about thirty cents, so three hundred dollars for ten spreads. You keep the two hundred dollar net credit. Luna: So you've got a net credit trade with a defined risk. The VIX call spread caps your upside loss if VIX spikes, and the VVIX put spread profits if VVIX mean-reverts. Lucas: That's the beauty. Max loss is if VIX blows past 25 and VVIX stays above 80 — then both spreads expire worthless, and you lose the net debit. But the probability of that happening given contango and low VIX is historically low. Luna: And the biggest risk is a black swan, obviously. But that's true of any vol trade. Lucas: Right. And you can manage that by keeping position sizes small and rolling if VIX starts to creep higher. But the core idea is that VVIX tends to overreact to calm markets — it's mean-reverting, like a rubber band. Luna: Quick honest thing — a handful of listeners chip in monthly through buy me a coffee dot com slash fexingo, and that's literally what funds making this many of these shows. Lucas: Yeah, and we keep it ad-free because of that. No sponsors reading scripts about mattress companies. Just the two of us and the charts. Luna: Appreciate the support. It lets us dig into stuff like this VVIX carry structure without worrying about ad reads. Lucas: So back to the trade — there's another nuance. The VVIX put spread benefits from time decay too, because VVIX options have higher implied volatility than VIX options. So you're getting a double decay effect. Luna: The VVIX options themselves are priced with a vol of vol premium. So as expiration nears, that premium evaporates fast if VIX stays quiet. Lucas: That's why the trade works best with thirty to forty-five days to expiration. You capture the decay on both legs. And in the current environment, with the S&P 500 at 7,584 and the Dow at 51,562, there's no obvious catalyst for a vol spike. Luna: The NASDAQ is actually down half a percent over five days, but that's not enough to spook anyone. Lucas: Right. And small caps, the Russell, up half a percent. Very benign. So the carry trade is a way to monetize that benign outlook without just shorting VIX outright, which can be dangerous. Luna: Shorting VIX outright has unlimited risk. This structure caps it. Lucas: Exactly. And the VVIX put spread gives you a defined payout if vol of vol drops. Let's say VVIX goes from 85 to 75 — that's a ten-point move. Your 80/70 put spread would be worth at least the full width, ten points, if VVIX is below 70 at expiration. So that's a thousand dollars per spread. Luna: But you paid thirty cents. So that's a three-to-one return on that leg, on top of the credit from the VIX spread. Lucas: Exactly. And the VIX call spread you sold will expire worthless if VIX stays below 20. So you keep the full credit. Total profit potential is around twelve hundred dollars on a ten-lot, assuming VIX stays below 20 and VVIX drops below 70. Luna: That's a nice asymmetric payout. What's the downside case that forces you out early? Lucas: If VIX jumps above 20 within the first week, you're going to see VVIX spike too. The put spread will lose value fast. I'd set a stop if VIX closes above 19.50 for two consecutive days. That suggests the calm is breaking. Luna: So you're not holding through a regime change. You're trading the mean reversion, not the breakout. Lucas: Exactly. This is a short-term carry trade, not a long-term hold. Most day traders I know who run this are in and out within two to three weeks. They take profits when VVIX drops five to ten points. Luna: And if it doesn't move, you still collect the decay on the VIX calls. So there's a positive theta even if the vol of vol doesn't cooperate. Lucas: Right. The trade has positive carry from the start. That's the key advantage over a pure directional vol trade. Luna: One thing to watch: VVIX has been known to spike intraday even if VIX is flat. So you need to be careful about entry timing. Lucas: Good point. I'd enter after the first hour of trading, when the overnight vol premium has settled. And I'd use limit orders on the VVIX put spreads to get filled at a better price. Luna: Also, the liquidity on VVIX options is thinner than VIX. So you might not get filled on large sizes. Lucas: For a day trader, ten to twenty lots is manageable. If you're trading bigger, you'd use VIX options directly with a different structure. But for most, this is a nice way to add a non-correlated return stream. Luna: And it's a good training wheel for understanding vol of vol dynamics. Once you get comfortable with VVIX, you can start looking at things like dispersion trades. Lucas: Exactly. The VVIX carry trade is a gateway into more sophisticated vol strategies. And right now, with the setup we have, it's worth a look. Luna: Alright, let's put a pin in that. Next time we can talk about how to hedge this trade with index puts if the macro backdrop shifts. Lucas: Good idea. For now, keep an eye on that VIX 19.50 level. If it breaks, the carry trade is off. Luna: And if it holds, enjoy the decay. Lucas: Thanks for listening. We'll be back tomorrow with another setup.