How to Trade VXX with Options

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Option trades: In tonight's update, we're going to go over all of the trades that we made on Tuesday, April 7th. We didn't have, any trades yesterday to start off the week, and hopefully, everyone had a great long holiday weekend to spend time with family. Today we had one of each. We had a new opening order, a closing order, and then a hedge or adjusting trade that we made to USO. 

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We'll start off with the trade in Twitter. We had a nice opportunity today to close out of our CALL calendar spread that we had in Twitter. We've only had this trade on Twitter for I think just over two weeks, so it hasn't been that long at all, maybe 11 or 12 trading days.

With Twitter, we were anticipating that the stock might go just a little bit higher, that's why we went directionally with the CALL versus the PUT spreads on the calendar. We also were anticipating that implied volatility would rise as we got closer to Twitter's earnings.

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We saw that happen over the course of the last two weeks or so, and kind of today we just felt like we had an opportunity to close it out with a nice profit for a one lot trade on a calendar. We did sell back to the market our April, May 52.5 CALL calendar for 2.33 credit, took in a nice $49 profit on each one of those that we sold back to the market.

With Twitter, you can see that the stock obviously made a move higher, right to where we wanted it to be. We ideally wanted the stock to be up around 52.5; it ended the day just a little bit beyond that. But more important than that, we also saw implied volatility rise, which helped solidify this position as a winning trade because as we got closer and closer to earnings, we saw that consistent history of seeing implied volatility rise, and rise, and rise.

We could have obviously left this trade if you wanted to, but now you run a lot of directional risks that Twitter continues to move far beyond or come back down below. As soon as you get the stock that moves right where you thought it was going to go or where you hoped it was going to go, 52.5 and you get implied volatility is moving the way you want, it's is probably in our experience, the best time to get out of the trade. You've had two things that go right in a market that's always hard to play, so why not take money off the table and bank some profits?

Just as a quick sidebar here, before we get into other stuff, it's pretty interesting, and I get a lot of emails, obviously we've got thousands of members on the website now. I get a lot of emails from members, and FXE was one yesterday that we had a lot of emails about yesterday. People asking about an adjustment are trade because FXE was rallying higher, and I talked with premium members on the strategy call last night.

Talking about the fact that we just don't know where the stock is going to go. It opened up the day, yesterday that is, opened up near the highs and then ended the day near the lows, and again, this is only one day and it could turn around but now you can see it gave up all of that gain and then some. Everything that we lost, paper money, like we didn't close out any trades yesterday, we just had trades that weren't winners yesterday. We gained all of that back and then some today.

It is a testament to show you that we have no idea where this market's going and sometimes it's not always the best trade to make a quick, kind of harsh adjustment or an aggressive adjustment. I think that you should be a little bit slower with your adjustments, have some defined guide poster road marker as we talked about in one of our past webinars, as to when you might make an adjustment.

Also keep things in perspective, and for us, yesterday, even though FXE went in the money on one of our strikes on the CALL side, we just had to keep in mind that there was so much time between now and expiration that anything can happen. We didn't want to be too quick to make an adjustment because of what just happened today.

Where the stock just moves right back down into the range that we want it to be in. Just as a quick little sidebar, just to help you guys out here, it's not always about making aggressive positions. It is much more of a waiting game than we all wanted to believe because we all want to be pretty active.
The one opening trade that we did have today, we'll cover that real quick. That is in VXX. This one's a little bit different.

We're playing volatility at this point. VXX is one of the securities that we like to trade to play volitility, and because volatility was low, VXX was low, the [vix 00:04:25] is low, stocks are higher, tehn we want to play a little bit of long volatility. We're not going crazy long volatility, but what we did want to do is play it just a little bit long.

The way that we're doing that is with an iron condor, but we're skewing that iron condor just a little bit. We're doing the 29/30 CALL spread above the market, notice that's just $1 wide above the market, so we're at the 29/30 CALL spread. Down below the market, we're doing a $2 PUT spread. We're taking a little bit more risk on the PUT side of this particular trade, selling the 21/23 PUTS, taking in an overall credit of 86 cents.

We're definitely leaving room to add or adjust this trade as VXX moves, but here's where VXX kind of ended the day. Really, really close to the lows it's had over the last year and so we're just, anticipating that some time between now and expiration out in May, which is out here, that implied volatility goes higher at some point.

Again, it's a little bit hard to trade implied volatility percentile with VXX because implied volatility percentile is tracking volatility, and VXX is volatility. You can't really trade most of this stuff off of implied volatility percentile. It doesn't work quite exactly that way with some of these volatility ETFs and indexes like VIX, et cetera.

That's a little bit difficult, I know we got a lot of questions on that, but we're not trading this, I know it does not meet our general requirements for implied volatility over the 25th percentile, but we are trading long volatility here so that's the direction that we want it to go. When you look at the analyze tab on where this position is, and actually let me just look at the actual trade tab here so you guys can see where our position is for May.

You can see that we're definitely leaving ourselves a lot more room above the market, notice our position above the market, out at 29/30. We really, ideally want the stock to be under 29, and we got a little bit closer and a little bit wider on the PUT side, and that's just how we set up the trade because it kind of fit the parameters that we were looking for.

You'll notice that we have a $2 wide strike down below the market so this is where we're taking most of the risk in the trade. Risk profile wise, you can see this skewed iron condor that we have, now going in VXX. Here's the deal, the reason that we skewed it is because implied volatility could rise really, really quickly, and if it does, we stand to make a profit all the way until about 30. Our break even point's just a little bit shy of 30, but after that we only lose about $14.

We don't lose a ton of money because of the way that we've structured the trade if implied volatility goes through the roof.  If implied volatility continues to creep lower, it's going to do so at a very slow pace. That's why we feel a little bit comfortable to make our PUT spreads a little bit closer because we're familiar with volatility, we know it's already low, so if it does go lower, it's going creep and creep lower.

It's not going to just dramatically drop another five or 10 points. At this point, we've got a very nice window of opportunity between about 22 and about 30 that we ideally want to see VXX trade in between now and expiration. 22 is down below the market where it's at right now, and the 30 is up here, so we're not going crazy long volatility. We're not hoping for a huge spike because we don't know when that's going to happen, but we're just playing some normalization in volatility up above the level that it's at right now between now and expiration.

The last trade that we had today was in USO. USO is a hedge trade, this is only for our April butterfly that we had, our iron butterfly in USO. We have two iron butterflies going on USO right now. One in April, which we adjusted today and one in May, which we did not adjust, that one is going fine because USO's moving higher, exactly where we want it to go for May.

For USO, what we did is we rolled up our 16 PUTS which were practically worthless, to the 18.5. That allowed us to take in a nice credit of 42 cents, that helps reduce our risk in case USO does continue to move higher between now and expiration. Here's the deal, USO has definitely continued to move off of the lows and implied volatility's starting to head lower, that's all great stuff, both for April and May positions.

We felt like because our position was ideally centered around 16, this is where we wanted USO to trade between now and April expiration, which is right here, this is that first dotted line on the chart. We ideally wanted USO to trade there; we felt like it was worth making a small adjustment to take in a little bit of credit because it's not just another $1 move down, this is going to be a $3 move down that we want USO to make.

It might not be as likely now that we're getting deeper and deeper into the trading month and the expiration cycle, so for USO here's what our position looks like for the April contract. It's now a little bit of that kind of unbalanced iron condor look, and you can see that we have got a little bit less risk now on the topside of our trade. We're leaving much more risk to the bottom side of our trade because we're rolling up that PUT closer and closer to where the stock is trading right now.

We can continue to do this if we want to, but the whole idea here is again, just to take in more and more credit that helps offset the total risk in the trade going from the beginning. As always, I hope you guys enjoy these videos. If you have any comments or questions, please add them right below here, inside of the membership area on OptionAlpha.com.

If you're watching this video somewhere else out there online or on YouTube, you just have to understand that this video and these alerts only go out to our members the same day. You're getting them about 15 to 20 days after they're sent out to our members. The only way you can get real-time alerts and this video every single night that goes over all of our trades is to sign up for a membership at OptionAlpha.com. Until next time, happy trading.

About The Author

Kirk Du Plessis

Kirk founded Option Alpha in early 2007 and currently serves as the Head Trader. In 2018, Option Alpha hit the Inc. 500 list at #215 as one of the fastest growing private companies in the US. Formerly an Investment Banker in the Mergers and Acquisitions Group for Deutsche Bank in New York and REIT Analyst for BB&T Capital Markets in Washington D.C., he's a Full-time Options Trader and Real Estate Investor. He's been interviewed on dozens of investing websites/podcasts and he's been seen in Barron’s Magazine, SmartMoney, and various other financial publications. Kirk currently lives in Pennsylvania (USA) with his beautiful wife and three children.