The question came up last week about why I have such a complex trading VIX options. For the most part, I haven't spoken with anyone who has had a great experience in trading them. I am going to assume that the majority understands the VIX, or has at least read my VIX article on Forbes some time ago.

There are a few reasons I refuse trade them. These are my own opinions, based off my own experiences. If you choose to read them, you may be influenced by my opinions and it may cost you money.

Reason #1: No Opportunities.

With the exception of about a half dozen rallies or retracements over the last year, opportunities involving substantial moves in the VIX are few and far between. Normally I like to follow the momo stocks, and I happen to be shorter term in the duration of my trades, but the VIX wouldn't qualify as "momo" to me, barring a few exceptions. However if you are longer term oriented, the percentage swings are amazing. If you can look out that far.

Reason #2: Implied Volatility on Implied Volatility

What? Due to the fact that the VIX is a measurement of implied volatility, I would have figured that the markup on these wouldn't have been too bad...initially. Check out the range of implied volatility on my chart below...

That's right. A scale of 105-55. Want to know why? Historical volatility. The index has a wild history. Since 1993 (which samples the end of the 90's bull market, the collapse, and our current bull market) The VIX has a price range as high as the low 50's and as low as 10. That is quite a range for such a low priced index. However, no matter how you cut it, the one amazing constant of this index is the historical volatility, which averages 80%. With historical volatility being that high, these will be priced not too far off these historical values. In fact, 80 falls right in the middle of that range (55-105).

As you know, implied volatility that high really pumps the price of those near money contracts. Here is a look at the September paper, VIX trading at 22.81.The calls are trading at 1.40 x 1.60, which isn't devastating if you are expecting a few points of upside. Take a look at the puts. 4.20 x 4.60! That's more like it. These options are priced as if the VIX is going to get crushed, and then some. Problem is that if you hit that ask, you would need more that a crash in the VIX to make money.

Reason #3: Cash Settled

You can't exercise these options. If I could, I would. Take a look at this...

Imagine you bought some of these overpriced calls before the rally in the VIX. With all the intrinsic value you just picked up, you ought to be ready to cash in on some big bucks, right? Wrong. Compare the intrinsic value to the bid. The deeper in the money you get, the further away the bid gets from intrinsic value. Take the 18's for example (August paper). This contract should be worth $4.81 (intrinsic) but it is selling for 2.85! Since these are cash settles, and the market knows you cannot exercise, you are f____! You can imagine what you would have paid for them in front of that rally, or if you can't pull some historical quotes. It will leave you very unsatisfied.

Reason #4: Forward Pricing

The reason that prices don't seem to move at the rate of the underlying index (until you are close to expiration) is due to the fact that the market uses pricing on the VIX futures to get a forward value of the index.

PS- They expire on Wednesdays, not Fridays. Just to be complicated.

Recommendation: Come to your own conclusion if you wish, but I'd take my word for it.

Long: Opinions

Short: VIX options