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Finance: What is the Volatility Index (VIX)? 2 Views
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Transcript
- 00:00
and finance Allah shmoop What is the volatility index or
- 00:06
Vicks No it's not this stuff not put that on
- 00:10
your equity trading sheet It just makes a mess and
- 00:13
little smells bad And no it's not a pre moistened
- 00:16
add either The volatility index Our vics is a measure
Full Transcript
- 00:19
of quote market volatility unquote using sophisticated statistical measures But
- 00:24
in essence the vics is a reflection of expected options
- 00:27
Volatility like it kind of trades like a stock because
- 00:31
the elements that comprise it come from current market prices
- 00:34
of options on a variety of indices So what does
- 00:38
that mean in English again What the vics comes from
- 00:41
things like Calls on Nasdaq puts on the Russell 2000
- 00:45
way out of the money calls inputs on the S
- 00:47
and P 500 That air long dated you know stuff
- 00:49
like that Well the vics was created in 1993 by
- 00:52
the CBO your Chicago Board of Options Exchange to make
- 00:55
the management of hedging all the more liquid easy and
- 00:58
well lucrative the easier the indices are to use while
- 01:01
the more liquid the system and the more options contracts
- 01:04
then that get traded and the more commissions than that
- 01:06
Get aid So more money for everyone right Then again
- 01:10
not so much more money for professional options traders Less
- 01:13
money for cardiologists trying to be smarter than the $1,000,000
- 01:17
a week Goldman Sachs people The backdrop here is that
- 01:20
the fixes the key driver in the pricing of options
- 01:23
That is the more volatile the market the more valuable
- 01:26
options become both in hedging positions i e Playing investment
- 01:30
defense and in simply trading options When things are volatile
- 01:33
there exists more risk more money to be made more
- 01:36
money to be lost That happens So why do options
- 01:39
become more valuable when they're volatility is higher We'll take
- 01:42
a stock and 40 bucks a share with modest volatilities
- 01:45
such that in the last year it's traded as high
- 01:47
as 45 bucks a share in its low is 35
- 01:49
bucks a share A call option with a strike price
- 01:51
of college 47 50 would probably be pretty cheap if
- 01:55
it were bought when the stock was trading close to
- 01:57
35 it had an 045 months to expire And this
- 02:00
makes sense because the stock would have to go up
- 02:02
over 12 and 1/2 dollars for that option to be
- 02:05
at all in the money Remember that a stock prices
- 02:07
and kind of like a floating piece of cork in
- 02:09
the ocean It's absorbed a lot of water that is
- 02:12
in a calm sea The court can drop a couple
- 02:14
of feet in the water and a fish can pop
- 02:16
it up in the air a few feet and a
- 02:17
little kind of trade on its own But in rough
- 02:20
seas idea Volatile overall market Well that cork will not
- 02:23
only go up and down the two feet it travels
- 02:25
on its own but will be market multiplied by some
- 02:28
meaningful factor of the ocean tides going a 14 feet
- 02:32
up here and then 14 feet down Yeah so if
- 02:34
you take this very modestly volatile stock and then place
- 02:37
it in ah hi Vicks market volatile environment Well all
- 02:41
of a sudden the odds that that stock could trade
- 02:43
above 47 50 for some period of time before it
- 02:46
expires making the option worth more than a penny or
- 02:48
two Well then that risk suddenly gets very riel and
- 02:52
the pricing of those options immediately reflect that risk or
- 02:55
that positive upside of making money on the call options
- 02:58
you bought That is one can imagine that in a
- 03:00
market that upper down three or 4% per day idea
- 03:04
very volatile market Hello late 19 nineties The market gets
- 03:08
on a roll and the entire market goes up then
- 03:08
20% in a few quarters That's the entire market including
- 03:13
boring stocks like G and T and stuff like that
- 03:17
Well that long dated option you bought for a dime
- 03:19
when the stock was trading at 38 12 with the
- 03:22
strike price of 47 50 will just based on the
- 03:25
overall market going up 20% And in this particular stock
- 03:28
having a good quarter could make it trade for 50
- 03:30
bucks a share Putting that option $2.50 in the money
- 03:34
and giving you a 25 x return on the dime
- 03:37
per option investment that you made and about five months
- 03:40
earlier So yeah I think about the fixes the ocean
- 03:42
because it represents the overall volatility of the market itself
- 03:45
It then plays into the pricing of options or pieces
- 03:48
of cork floating in the waves And yeah that's the
- 03:50
vics Apply liberally to your problem areas
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