Another unchanged week, with a smaller $900 range. The weekend has been choppy again. We have failed to take out $12,000 twice now. The bullish sentiment in both contango and call skew is down. Maybe it is what we need to get higher, or maybe the market is getting ready for a correction.
10-day realized volatility is 60%, down from 83% a week ago. The short-dated options are trading even below that. That is either driven by large open interest around $11,000 and $12,000 or by traders’ frustration with the inability to break out of the recent range. Gamma trading has been sufficient to cover decay though.
Last week, we alerted our readers to the anomalously high call skew. This condition has relaxed somewhat. Calls are now reasonable through December 2020. Puts are elevated in August and still cheap in the December-March period.
Let us review last week’s recommendations:
- We like the put skew and do not like the call skew throughout the terms, especially in the dated contracts. We recommend being long put short call (hedged). If you are bullish, be long Vega. If neutral flat Vega is more appropriate
- Spot to August contango is around $140. Use it to improve portfolio returns.
Put skew is a huge winner throughout the terms (to the point that we would like to flip short put skew in August). We would still like to be short call long put in March. December is now reasonable on the call side, so we would rather roll the shorts down and be short straddles against puts (hedged).
Spot to August contango is down to $45. While still reasonable, it is not as attractive as recent levels.
This week’s recommendations:
- We like the put skew and do not like the call skew throughout March. We recommend being long put short call (hedged). If you are bullish, be long Vega. If neutral, flat Vega is more appropriate.
- In December, put skew is cheap and call skew is fair. We recommend being long puts vs. straddles on leveraged put spreads. Flat Vega seems to be the most prudent position.
- In August, put skew is elevated. We recommend rolling the strikes up if long or outright shorting it vs. meaty calls or straddles.
- Spot to August contango is around $140. Use it to improve portfolio returns.
The entirety of this report attempts to identify the best option structures available. Readers should overlay it with their directional view by under-hedging or over-hedging their preferred option structure.
