The Morning Hammer: Why the VIX Could Collapse, and 4 Other Thoughts on Today’s Market Action

5) Tesla Destroys Options Traders

Yesterday, I opined that Tesla (TSLA) options were probably not as cheap as they looked.

It turns out they were way oveprriced.

As of yesterday morning, they were pricing in a $12.84 move.

Tesla is down only $1.30, which is absolutely murdering holders of puts and calls.

Weekly at-the-money $225 calls are down -67% while the $225 puts are down -55%.

Meanwhile, sellers of the weekly $225 straddle are up an amazing 61% in one day — I wish I was in that crowd!

4) Watch Dem Bios!

For the past 2 days, the SPX has looked pretty sleepy.

However, relative strength in biotech (IBB,XBI) and the Russell 2000 implied more bullishness under the surface.

Today, both IBB and XBI are in the red, but making little moves off the lows, even with sector heavyweight Biogen Idec (BIIB) sinking another -1.7% as takeover rumors extinguish themselves.

If I was a bear, I would most definitely not want to see biotech turn green and lead again, especially since the Russell is outperforming SPX by about 30 bps.

3) Sentiment Update

Sentiment is still getting more bearish.

The CBOE Equity Put/Call is at 0.94 this morning, which is right in-line with the YTD average, but well off the early July lows.

However, the ISE Sentiment Index is at 66 this morning (66 calls for every 100 puts). That's a of aggressive hedging in the early going.

Plus, the AAII survey shows 29.8% bulls — well below the long-term 38.6% average.

Overall, it looks like traders are looking a little more skittish ahead of a pivotal NFP report tomorrow.

2) Oil

Crude oil is still hugging the $40-handle pretty tightly.

I'm still a bit puzzled as to how well both equities and high-yield are ignoring oil's 20%+ drop off the highs.

Take a look at this chart of crude oil vs. HYG year-to-date:

Energy stocks have been slipping, but overall, the market's basically yawning at oil weakness.

Maybe folks are just rotating into metals?

GLD is up 28% YTD while SLV is up 46%. Meanwhile, the miners (GDX) are up 127%!

1) Why the VIX Could Collapse

Lots of traders are out saying the VIX is low, but I believe it could drop to the 10-11 range.

Remember what the VIX is — a representation of volatility expectations, as measured by 30-day SPX options.

With the recent lack of movement, 20-day realized SPX volatility has collapsed to 5.4.

So the 12.6 VIX is actually trading at a massive premium to actual market volatility.

This means it's already pricing in an expansion in volatility.

If the market continues to go flat (which I expect for the next month) — or if it climbs slowly — the VIX could easily drop below 11 as traders reprice options to reflect persistently low actual market volatility.

Now with a wild move, all bets are off (we do have NFP tomorrow) — buyers of puts or call could make a lot of money.

But if the markets go flat as I expect, folks buying what look like “cheap” options will find out that they overpaid.

P.S. If you're into this fancy options stuff, check out today's FREE webinar with my buddy Doug Robertson.