Nasdaq-100 Month In Review February 2022

The Nasdaq-100 (NDX) had quite a ride in February. At the worst point of the month (Feb 23) NDX was down 9.5%, but did manage to finish strong putting up about a 4.6% loss for the month. Over the final three trading sessions of the month NDX rose 5.4% so it may be that momentum will push NDX to higher levels and 2022 will not be the disaster some have been calling for due to a combination of inflation, Fed action (or uncertainty), and numerous geopolitical issues that do not seem to want to stop popping up.

NDX Option Market

The NDX put / call ratio displayed less market concern in February when compared to January. Note the high usage of NDX puts on the left side of the chart where market concerns resulted in higher relative put volume versus call volume. February activity was more balanced with the put / call ratio averaging 1.14 in February versus 1.48 in January. For perspective, the same figure for SPX was 1.73 in January and 1.67 in February.

VOLQ vs. Realized Volatility

February was the second month in a row where NDX realized volatility was greater than what VOLQ was predicting on the last day of the previous month.  On Jan 31, VOLQ closed at 26.46 while realized volatility (quoted as a whole number for an apples to apples comparison with VOLQ) came in at 32.43. This follows a similar outcome for January where VOLQ closed at 18.00 on Dec 31 versus a realized volatility outcome of 28.84. The chart below shows VOLQ – NDX Realized Volatility by month from Jan 2014 to Feb 2022.

The long reddish lines represent months where VOLQ greatly underestimated the subsequent realized volatility. Needless to say the long red line, where realized was almost 50 points more than VOLQ was March 2020, when the pandemic had the greatest impact on both financial markets and our everyday lives. Finally, I would remiss if I did not point out that there have been multiple occurences of three consecutive months where realized NDX volatility was higher than what VOLQ predicted on the last day of the previous month. We all know volatlity is a mean reverting measure, sometimes it just takes longer for us to get back to a normal environment.

VOLQ vs. VOLQ Futures

VOLQ futures, listed at CME Group, have started to see a pick up in volume. Volatility and option traders will use volatility futures pricing versus the spot index to interpret the market’s outlook for the respective volatility index and by association the underlying market. We calculate a weighted VOLQ future using the front two month contract prices in what we refer to as a modified future price. A modified future takes the front two months and targets a 30-day outlook by time weighting the contractrs. The chart below shows this pricing on a daily basis for 2022.

The blue line, representing the VOLQ futures market, is at a premium relative to spot VOLQ when the curve is in contango. Spot VOLQ at a premium to the future price indicates backwardation, as state that usually accompanies excess market uncertainty. So far 2022 has been all about uncertainty with backwardation showing up 12 of 39 trading days and contango being in place for the balance of those days.

For the first 18 trading days in February VOLQ remained elevated versus VIX. The two crossed on the final trading day of the month. This is one reason I like to look at the average volatility over a time-period versus figures like month over month closes. VIX at a discount on the last day of the month does not tell a full story for the month of February.

This is an anomaly as February is typically a month where VOLQ is at a discount to VIX the majority of trading days. The following chart shows the average number of days VOLQ closes at a premium to VIX by month. Note February, highlighted in blue, is typically lower than VIX.

Elevated VOLQ in February did create some opportunities to initiate credit spreads with a wide berth. For example, on Feb 1 a trader sold 100 NDX Feb 18^th 13800 Puts for 83.00 and bought 100 NDX Feb 18^th 13500 Puts for 58.20 taking in a credit of 24.80. This trade was executed with NDX at 14895 and the payoff at settlement appears below.

This trade was safe as long as NDX did not drop 7.4% over the life of the trade. Note the low highlighted on the payoff diagram gets close, but does not breach the short strike of the put spread. An analysis of volume and trading leads me to believe this trade was held to expiration resulting in a profit equal to the credit received when the trade was executed.

VOLQ remains at elevated levels, which is justified considering the realized volatility for NDX is near 30 so far in 2022. However, NDX caught a tailwind to finish the month and VOLQ moved below VIX. Predicting anything in the world these days is a risky prospect, but it may just be a continued recovery is commencing for NDX.