Year-End Thoughts From the Wise Men of Options

The VIX Drip

The other big issue of the year has been the steady, continuous decline in option volatility. This has confounded traders in multiple ways. The first people affected are those who seemed convinced that the each time the VIX slipped below another 5-point threshold, from 40 to 35 to 30 all the down to the current level of 15, it was a sign of complacency and a market top.

Vix Takes a Dive Options volatility has declined while market soared.

"People failed to remember three important things: One, volatility typically drops as markets climb; two, we were coming off of an unusually high level of implied volatility that was the result of 9/11 and buildup to the Iraq war; and three, the current implied volatility is merely a reflection of the real or historical volatility of the market," said Frederick Ruffy, an options analyst with Optionetics. Currently, the S&P 500's actual 30-day historical volatility is a mere 11%.

This leads to the general lament among options traders of all stripes. "It is just really difficult to make money trading in the current environment," said Michael Schwartz, chief options strategist at Oppenhiemer. "They are too cheap to sell, and buying has become like Chinese water torture," says Schwartz.

Still, most traders view purchasing the currently cheap options as the safer route. "How badly can you get hurt jumping out the first-floor window?" wondered Adam Warner, an independent options trader and contributor to Street Insight.