Volatility Crush

Heather Cullen

Heather Cullen

In The Money

Heather Cullen Blog Bull Market

Volatility Crush

Well, we are back in the market and things have been looking more positive. I am writing this after trading on Thursday, and I saw an example of volatility crush so I thought it would be a good thing to have a look at, along with time decay.

Options Charts

I spent a frustrating hour on Schwab SSE trying to get the option charts, which I knew were hard to find. I had thrown out my cheat sheet in my most recent office clear-out, thinking ‘oh, I’ll easily remember that’. But I didn’t, and support had no idea, but I poked around and eventually found it. For those of you who trade through Schwab in case you don’t know here’s the path: Launch SSE / Launch Tools / SS Central /account positions /choose chart icon / detach.

Time Decay

We know that DITM options have little time value, and the ITM strategy looks for options with around 1% time value and 99% intrinsic value. At expiry, no options have any time value left (because there is no time left) so the most time value we can lose on one of these DITM options is 1%. However, that’s not the case for OTM options.

It is November options expiry on Friday, so I am going to look at 2 options that expire tomorrow: a 445 call and a 455 call.

The 445 has $1.54 intrinsic value (How? Current price of $446.54 – strike $445). Here is its chart over the last 3 months, with volume plotted below it.

Heather Cullen Blog SPY options 1

OK, what do we notice? Two things:

 (1) The price dropped dramatically, from $18, to $0.13 before recovering a bit to $5.55.

 (2) The volume has increased as time has gone on.

If I took this snapshot after Friday’s trading you would see a massive increase in volume, and if I put it on an intraday timeframe most of it would be in the last hour, as traders frantically try to buy and dump before closing.

This was an option that could quite possibly expire in the money, so lets look at another that is   very unlikely to: the 460 option.

Heather Cullen Blog SPY Options 2

What do we notice here? It has dropped from $$8.50 to $0.01 and hasn’t recovered. Instead of the volume increasing it has dropped away as traders give up on it ever being in the money, apart from Wednesday then everyone apparently dumped it.

Why am I showing you this when it isn’t part of the ITM strategy? Because you may want to play with a small part of your account (I do, it’s fun) just be aware that it is totally possible to lose big time.

Volatility Crush

There is another annoying thing about OTM options. they are subject to volatility crush. This refers to the reduction in the price of an option because of a reduction in the implied volatility. Implied volatility increases when the market expectations are for future price fluctuations of the underlying. A drop in implied volatility means that the market is expecting things to calm down a bit, and the price to become more stable.

The VIX (volatility index) has dropped to just over 14 which means that we are in a time of very low volatility. This has an effect on option prices, making them cheaper – but not all options are affected equally. For comparison, here is the SPY chart for the last 3 months. You can see that after a gap up on Tuesday it has been relatively flat. But the option prices are interesting.

Here is a snapshot, taken after Thursday’s trading, of some positions in one of my accounts. You can see that SPY went up, not much but 0.12%.

Heather Cullen Blog Account

Two of the options went up. The Mar 2023 230 strike went up 0.25% and the Mar 2023 440 strike went up 0.75%. How to explain the disparity? Well, the 230 strike is leveraged at 100% so went up double SPY as expected (there is no point showing a graph as it is very thinly traded). The 440 strike went up 0.75%, significantly more. Why?

Here is the graph of SPY for the last 3 months:

Heather Cullen Blog SPY Chart

And here is the graph of the 440 call for the same period:

Heather Cullen Blog SPY 440 option

You can see that the pattern is essentially the same, but the outcome is far better at 0.75%. As it is a near the money call it has a higher percentage of time value than the DITM call and so is more affected.

And lastly, the 460 call:

Heather Cullen Blog 460 SPY option

What is annoying about this option pricing is that the underlying SPY went UP, but the option went DOWN. Volatility crush in action.

Backtesting the QQQ

I have been backtesting QQQ using the ITM strategy – and the results are not encouraging. I am trying to figure out exactly why, and I suspect it is to do with the volatility of QQQ being higher. Drawdowns (losses) early in its life contribute to the underperformance. QQQ was started just before the ‘Tech Wreck’ in 2000, and then suffered very badly during the GFC.

Here is the relative performance of SPY and QQQ this century:

The 100% leveraged account beats the market but only by 29%, which is not exactly breathtaking. I will keep working at it, although I have so many strategies I am testing that I am starting to get lost. I need to take a break for a couple of days then regroup

Daytrading Experiment.

I haven’t forgotten this, but I haven’t been able to force myself to do this for the last few weeks. The account is still open so I will have another look at it . . . sometime!

To The Markets:

Well, we have been back in the market for a week now – and a funny old week it has been. After a huge gap up on Tuesday, the market has been dithering, unable to make up its mind about going north again. The good news is that it is showing no signs of retracing and closing the gap. For now, at least. So, let’s look at the charts.

SPY Chart

The downtrend line has been broken – that happened on Tuesday, and trading has been above it for 4 days now so that is confirmed. What is unusual is the gap up, followed by a positive (although not long) candle, then followed by 3 classic dojis. Doji is a Japanese word meaning ‘the same’ or ‘unchanged’, and refers to candlestick with a very small body, meaning the open and close prices are very close.

Heather Cullen Blog SPY Chart

Dojis suggest indecision in the market as there is a balance between buyers and sellers, and can occur during periods of consolidation. They do not mean anything in themselves, but can be significant as part of a larger pattern. In this case we have three in a row, so hopefully we are looking at consolidation before the uptrend continues.

Other things to note: we have broken resistance at around 444, so this may turn into support. We are approaching the high of late July ($457.79) which was the highest point since the start of the bear in January 2022.

It has been a long 23 months. What a time to publish a book on a bull market!  &#128580

SPY Chart in perspective

But let’s keep things in perspective. It is a good idea from time to time to see the longer term trends. Here’s what has been happening since Covid:

Heather Cullen Blog SPY Covid

And here’s what has been happening since the GFC:

Heather Cullen Blog SPY GFC

And here’s what has been happening for the last 123 years:

Heather Cullen Blog SPY 123 years

Not particularly helpful? Let’s put it on a logarithmic chart:

Heather Cullen Blog log 2

I’ve marked some of the important dates, and put a trend line on since the depths of the depression nearly 100 years ago. Yes, we are above the long term trend – but then we have been for the last 40 years.

Why look at ancient history? Because, for me, it helps me gain perspective rather than get too caught up in what is happening right now. Hope it helps you too.

SPYG Chart

Much the same as SPY, with the same gap up and then the dojis.  As we never got a death cross in SPYG, we are still in the market and have been since March. SPYG is now approaching its previous high of $62.89, and is up 14% since entry, so at 100% leverage you should be up around 29%.

QQQ Chart

The last week has had the same pattern as SPY and SPYG. QQQ is butting up against its post-2022 bear high and is approaching its previous post-covid high of 400.

Heather Cullen Blog SPY

VIX Chart

The VIX continues to drop.

Heather Cullen Blog VIX


Heather Cullen Blog ITMeter

New Book

I will be publishing another short book, the 1 – 2 hour series, this one is about reading stock charts. It will probably be rather basic for many of you, but you may know someone just starting out that would find it helpful.

It is all written, now I just have to pull it into the various formats, which is time consuming and frustrating. I find it is actually quicker to do it myself, rather than have someone who doesn’t know the subject material do it.  I have an ulterior motive for announcing it – once I have said that it is going to be available then I have to actually do it! It’s a great motivator.

The week ahead . .

The futures are down slightly, but it is almost 12 hours to market open so it doesn’t really mean anything at this stage. Lets hope that the market gets out of consolidation and starts going up again!


Anyone work out why I chose the image at the top of this post?

Questions & Comments

As always, happy to answer questions and receive comments (just be kind!)

16 thoughts on “Volatility Crush”

  1. Hi Heather,
    Thank you for your weekly blog. Happy Thanksgiving to you and others. Santa is coming and SPY is going to 500 points by the end of this year. If not by 2024 then. Happy Holidays.
    George Halongton in Los Angeles

    1. HI Brian
      I get the market data updeted by my graphing package, OptionsGear Hubb Financial – although I am going to change them I think, because suddenly the drawing tools are not working and they are not replyong, so I am definitely not recommending them.
      I get the historical data mainly from Yahoo Finance (it is free) – lthough it can be a bit temperamental and limit how much you can get, but if you persevaere it usually works eventually. I cross match that from various sources, like marketwatch.
      Day to day, I watch on investing.com for a summary, and through Charles Schwabs Street Smart platforms.
      But, no, I don’t have any recommended suppliers – careful to keep my independence!

  2. Hello Heather, I have purchased both the ITM Bull and Bear books, great stuff. Will you be updating the Bull results for 2023 at end of year ?

    1. HI Jeff,
      I am intending to update both the books for 2024, although the bear one won’t change a lot as we didn’t go into a real bear market last year – just an annpying little one that kept us out of the market!

  3. Your blogs have been super helpful, thank you. I can’t recall if this was asked in previous emails, however for an aspiring trader who is determined not to succumb to the traditional broker/financial planner route, do you recommend any type of market analysis to supplement the ITM strategy? Skimming over financial news article headlines has proven insightful to get a read on overall market sentiment, however do you have any other go tos for news sources; maybe more in terms of events/factors that have a propensity to strongly affect the SP 500, and or the Nasdaq?

    1. I keep an eye on the markets and what people are saying – but really only for curiosity. Having said that, if it is something momentous then yes, take notice. For example, I was early to the covid situation, acted, and then was surprised that it took so long for the market to take it seriously.
      What people say and what people do are different – and luckily, we have a complete record of what they actually do in the market, which is why I rely on the charts so much. I don’t go to any chat rooms, and apart from the blog, I never talk about trading or the market.
      News? The first thing I do when I wake up is look at the figures in Investing.com to see what happened overnight, and the futures and the AUD / USD cross. Then I glance at the headlines, taking notice if it is reporting season. Apart from that it is just general news perusal.
      I do read the Calafia beach Pundit, he has a lot of information on monetary supply and other background that I find really useful – just google him. He only posts every 2 weeks or so, but is always worth a read.
      Re what affects SPX / Nasdaq – I’ve seen them go up on bad news, down on good news, and everything in between. All we can do is watch what people actually DO hence my reliance on the charts.

  4. Hi Heather,

    I’m wondering if you’ve noticed any relationship between the psychological difficulty of placing a trade and whether it is a winner/loser (and optionally, whether it is a big winner/loser).

    Do you journal this?

    As always, Thank you,

      1. Hi Heather,

        Sorry for the confusion – let me reword this.

        Is there a relationship between the mental ease/difficulty of placing a trade and its ultimate profitability?

        For example, some trades are very easy to place (i.e. if I think we’re at a bottom – the trade “feels” good) and some are very difficult to place (if I think the market is topping out – the trade “feels” painful to place). It seems to me (I have no journal to prove this) that the difficult ones are the profitable ones.

        Thank you,

        1. Hi Ronny – I see what you mean!
          Funny that you should ask that, I have been pondering on whether we should pay attention to our feelings about trades. I am going to chack out a book I read a couple of years ago about making fast decisions, and how they are sometimes the best. Let me check this out again, and answer in a day or so.
          (but no, I don’t keep a trading diary. I used to but then I realised I never used it to review decisions so I stopepd)

  5. I missed your call to get back into the market earlier this week since I was out of town. What do you generally suggest in such cases? Is it okay to get in now and follow the ITM signals going forward?

    1. Hi IR, tis is something you can’t backtest for – trying to backtest with 250 entry points per year is way beyond what I can get my head around – and how would you document it?
      However, my advice is always: if you have decided to get into the market then get in. Don’t try to time’. This is because every tme I hang round waiting for the price to come down to meet my offer it always seems to get away from me.
      So my practical advice is: unless something crazy has happened the day before – like the price jumping or dropping 3% in one day then enter the trade. Where we are now on SPY? Possibly a good time, as there has been some consolidation – but I don’t know what is going to happen, no-one does.
      If it was me personally I would get it, but you have to make your own decision.
      Hope this helps.

  6. Hi, Heather. If you haven’t already, two quick tips for large Excel files are to save as .xlsb (binary) and turn off auto calculation. At least those help reduce the annoyances a bit. Also – if you were to want to potentially spend several months learning a new tool and spend a few hundred dollars, then check out MATLAB with it’s Financial Toolbox. Being a high-level programming language, it’s very flexible and powerful for formulating strategies. (From what I can tell anyway, as I haven’t learned enough of MATLAB yet to do much that’s useful.) MATLAB’s home version is USD 149 and the 3 required addons are 45 each, and those are perpetual licenses. Here’s a short video demonstrating testing a backtest strategy in 8 lines of code. (https://www.youtube.com/watch?v=zHnvYdsVH7I) The line starting with “signal =” is the simple rule set. As a bonus you could add a for loop around that line to have it run many hundreds of combinations of RSI buy and sell levels. And with another line of code have it graph the results on a 3D surface with buy level on the x-axis, sell on y, and final profit/loss on z. Seems like it would be a great tool, after getting over the learning curve. Thanks for another great blog post!

    1. Hey Rodney – thank you for this! I am going to copy it into the latest blog post so that everyone can see it.
      Hopefully someone will do it and share all the results with us. I will have a look – I think I’ve checked it out before, but I will do it again.
      And thank you for the excel tip! Never saved anything as XLSB before, must check it out.
      Thank you

Comments are closed.

Heather Cullen

Stay up to date

Get notified when there is an ITM Update

Thank you – your message has been sent. Please note that  as of July 2022 Heather will answer all questions in the ITM Blog, not individually. You will be notified when there is a new blog post. Happy trading!