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Trade Idea from Andrew Keene

TradingPub Admin | June 6, 2013

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Special thanks to the guys over at Keene on the Market for today's Trade Idea.

There are very few ETF’s that can report as low numbers as Barclays Bank PLC iPath S&P 500 VIX Short Term Futures ETN (NYSE: VXX). Since it stared in early 2009, VXX has plummeted a ridiculous 96% and 57% just this year. Some investors just don’t care (about their money) though because VXX is still trading volume of more than 51 million shares per day, more than all other 24 ETFs combined. The only attraction VXX has is its occasional spike of around 31%; this however is such a terrible risk to take, which is not advised to do by many economists.

The biggest problem with VXX however is the in the VIX curve itself. Like most commodity price curves, VIX grows as the maturity date fades away. For VXX the big problem here is when the fund continuously rolls the first month contract into the second month contract, as the months go by. This creates a need to buy low and sell high in perpetuity. Taking this into consideration, the idea of “contango” (defined by Daniel Putnam as price curves increasing when the maturity date becomes more distant) seems like it will always be a problem for VXX, which comes with a 0.89% expense ratio. More bad news is that VXX has an inability to provide any type of long-term hedge against a tail risk, which is commonly known. In response, ETF advocates say that this is a strategy made to take advantage of short-term increases in market volatility. Looking at the history though, the fund fails at doing this also.

I think that the stock market will continue higher and that the volatility, VIX and VXX, will continue to head back down, but when I am trading I always want to set-up a good reward to risk setup.

The Trade: Buying the July-June 18 Call Calendar Spread for $.61

Risk: $61 per 1 lot

Reward: Unlimited if the June 18 Calls expire worthless and I am still long July 18 Calls

Greeks of this Trade:

Delta: Short

Gamma: Short

Theta: Long

Vega: Short

To learn get more options education from Keene on the Market, check them out on twitter at - @KeeneOnMarket