The Option Pit VIX Traffic Light Is Red: Volatility is likely to decline.

Hey Traders,

Thursday’s rally was different from the rallies on Tuesday and Wednesday.

For starters, we came within a hair of 4,000 in the S&P 500 (Ticker: SPX).

With the S&P 500 up 1%, the VIX dropped almost as much on Thursday as it did on Tuesday when the SPX was up almost 3%.

At this point, the S&P 500 could make a little run here …

I’m not sure it will last, but with the change I saw today, it’s possible for the SPX to move higher.

For the past few days, despite the S&P 500 rallying, volatility has been firm.

But Thursday was different …

Volatility actually fell:

Looking at the 4,000 strike in SPX for August 19, we can see that for the first time during this rally, strike volatility actually went down.

If we continue to rally, volatility could get smoked, as it appears the upside hedgers are done buying calls and selling stocks.

While we could easily sell off, if this rally holds for a bit, we are set up for a sub-20 VIX.

I would be a buyer of the August 23-strike puts (I actually bought them this morning in my Vol Edge program).

Worse would be 2x Long VIX Futures ETF Fund (Ticker: UVIX) and ProShares Ultra VIX Short Term Futures ETF (Ticker: UVXY) … both look set to drop below 10.

With the VIX of VIX, VVIX, as low as it is …

It is super cheap to hedge a short position with VIX calls, and only a fool would not, given the FOMC next week …

Speaking of the FOMC, make sure you join Bill Griffo and I today at 1 p.m. ET to go over what will likely happen at the next meeting, and what it means for your trading.

Your Only Option,

Mark Sebastian