How To Trade A Potential Santa Claus Rally

The Option Pit VIX Traffic Light Is Yellow: Volatility Is Going To Make Wild Moves.

Hey Traders,

If the market had an opportunity to dump, it was when President Biden was speaking.

It didn’t.

Instead we watch the S&P 500 (Ticker: SPX) close at the highs, and the VIX fall near session lows.

So is the fear over?

What should you trade?

Well, the SPX did have a pretty strong up day on Tuesday.

80 points was more than enough to make up for the selling on Monday, and also some of what occurred on Friday,

But if we are going to see a serious Santa Claus Rally, we are not to where the SPX needs to be yet:

We have topped out to close above 4,700 four times, with the high being about 4,712.

Each time it has happened, the SPX has failed.

It has been “buy the dips and sell the rips” lately, as opposed to “buy the dips and buy the rips.”

If we are going to get a real Santa Claus rally, we need the SPX to get above 4,700 and stay there for a few days …

Can it happen?

Here is the good news …

The VIX is back in a strong contango (futures trading progressively higher over spot VIX):

This morning, December-dated VIX options expire. It will be interesting to see where they land.

But the more important piece is the January future.

It is trading 2.35 points above cash, and widening …

Vol will not be oversold until that spread level hits about 4 points, which is somewhere it would hit with the VIX below 18.

If VIX is 18, we are going to be above 4700 …

From there, we have some pretty interesting allocations that could drive the market higher.

That could push VIX to 16, and the future to near 20.

If the SPX gets to 4,700 and fails? Well, then all bets are off for next week.

So how do you trade it?

The answer lies in VIX.

The January 18-strike puts cost less than $0.50. That is really cheap, considering the December 18s topped out at post-VIX expiration level of $1.20.

The Jan 30-35 call spread cost about $0.50. Again, the spread was over $1.00 at its peak in December.

Both are too cheap …

You know what to do.

Your Only Option,

Mark Sebastian

Leave a Reply

Your email address will not be published. Required fields are marked *

This site uses Akismet to reduce spam. Learn how your comment data is processed.