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This Top is Obvious, and Investors Are Already Overhedged

Have a look at this 30 minute chart of the QQQ (Nasdaq 100):


After a hard rally in August, the Nasdaq has been in a time-based correction.

And it looks like a top, right? Feels like a top?

Ready to rollover?

Here’s the problem with that thesis. This is a 30 minute chart of the VXN, which is the VIX for the Nasdaq:


THe normal relationship with markets and options is that options will become in high demand when markets are selling off as investors are fearful that the current selloff will continue.

What we have here is a unique situation where there are many investors buying protection in anticipation of a selloff that hasn’t occurred.

If the VXN were near 3 month lows I would be convinced that further downside is coming in the markets.

But because eveyone and their mother has already positioned for that pullback, this turns it into a bullish case.

My guess is that we will break under the “obvious” support level, suck in some more shorts and put buyers, then reverse higher and retest the range highs.

The Two Magnets in the S&P

In my member’s video last night, I laid out in very clear terms that 2 things will most likely happen:

1. The SPX will bounce this week

2. It won’t be the bottom.

Of course these claims are not set in stone as anything can happen, but given the way the market has traded pullbacks for the past few years, this is the highest odds play.

But these claims lead to questions… where will the bounce stop and where will the bottom be?

One of the cool things about technical analysis is recognizing that certain levels will act as magnets.

That these levels are so overwatched, price will move to those levels just to see if it is accepted or rejected.

There are two of these “magnet” levels right now for the S&P: 1900 and 1950.


1900 is previous resistance from the Mar-May base and the 38.2% fib retracement from the Feb lows to the recent highs.

1950 is previous support from the July top and the 50% retracement from the current lows to the July highs.

The market thesis is this:

If the SPX does bounce but fails to retake 1950 within the next two weeks, we will go and test 1900.

With this thesis, the gameplan now is:

1. If we flush into 1900 in short order, load up on bull put spreads.

2. If we rally into 1930-1950, take long risk off and buy some SPX hedges– 1900 put butterflies are a great trade.

3. Odds are we fart around in this range for a bit (provided no news catalysts) and IV is high so iron condors work here.

If you want to see how we do this in real time, get a 2-week pass to IWO Premium. Trade alerts, nightly videos, video training, and a chat room. Get the pass here.

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So You Want to Buy the VIX…

At the time of this writing, the VIX is at 11.15.

It’s low.

Hilariously low.

And with so many talking about the death of volatility (which isn’t true) you might want to take a contrarian bet and get long the VIX.

So you open up your brokerage account, pull up the VIX, and place a buy order.

You’ll probably see this pop up:


Well that’s not good. It turns out, the VIX is a non-tradeable statistic, derived from SPX options pricing.

What do you do now?

You could trade VX futures! Let’s have a look at the current prices:


You could buy the June VX future for 12.24, but those only trade for one more week and converge on the spot VIX. If nothing happens you could see a buy of 12.24 drop all the way to 11.

Instead you could buy July VX futures… for a higher price. Because more bad stuff can happen in a month. The more time to expiration, the higher the cost. In fact, buying a July VX future at 13.50 isn’t the best deal in the world because we haven’t traded above 14 in 2 months.

So you move on to VIX options… except the underlying of VIX options isn’t the VIX, it’s the expected value of what the VIX will be in the future, as reflected in VIX options.

Maybe buying a July 12 call for 1.75 is a good bet (which I think it is)– so if the VIX pops, you’ll see a move.

Here’s the problem with that– if and when the VIX does move to the upside, the VX futures (and the corresponding gain in the options) will be dampened because much of that will have already been priced in.

If the July VX future is at 13.47 and the VIX pops up to 16, that doesn’t mean the future will pop up 5 points as well… the futures market may in fact trade at a discount to the spot VIX, which often happens during market pullbacks.

You could then look to vol ETP’s like VXX and TVIX, but those come with roll yield issues and structural inefficincies.

And so on.

The point here is not that long volatility is a bad trade– in many cases long vol is a great trade here.

But thinking you can just get long the VIX because it hit 11 is a much more complicated idea than what it seems.

Don’t Set and Forget Your Income Trades

There is a massive myth out there when it comes to income trades like iron condors.

The myth is that you can somehow put on these trades and collect your monthly returns while you sit on a beach with a fruity drink in your hand.

But if you try to trade that way, your losses will be a lot greater than the money you make.

Income trading is a lot more active and dynamic than you think.

Hedged and Scaled in the Russell

Here is a recent trade we took in IWO Premium.

The Russell had the highest implied volatility in all the indexes, so it made the options the best “sell” if we thought the market was going to stay quiet.

I had one concern, that somehow the RUT would rip higher… since income trades normally start out short by way of their structure, we would be sitting at losses if the market ran higher.

To start off the trade, we picked up some RUT put butterflies but also bought some IWM calls– since IWM is 1/10th the size of RUT it makes for a great hedging device.


This got us delta neutral. If the Russell ripped higher, we’d take off the calls for a profit, and if we headed lower then we would be in the “sweet spot” of the butterfly spread.

The Russell then sprung higher to around 1140. We were losing money on the put butterflies but made up for those losses with gains in the IWM call hedge.


By putting on hedges at the beginning, it gives us a lot more wiggle room in the trade compared to a more traditional “set and forget” income trade.

From here, we closed out the IWM call buys and picked up another round of RUT butterflies.


After a pullback and a little more chop, the trade currently stands at a return on risk of 20%, when the profits from the IWM hedge are included.


We’re now in the “milking” phase, where we try and squeeze some further profits out of the trade before we exit.

Is this more complex? You bet.

But you end up with much better risk adjusted returns, and a lot fewer headaches compared to just sticking on some iron condors and wishing for the best.

If you want to learn how to make trades like this, we’re doing an Income Trading Workshop on Tuesday, May 27th. Click here to learn more.