By Lawrence G. McMillan
It is becoming commonplace to hear commentators on the business channels say something like “You need to buy protection now, for it is extremely cheap.” That is a very misleading statement. Yes, $VIX is low, but you can’t buy $VIX.
If instead you decide to buy $VIX futures, you must pay a large premium for them, and they waste away daily if nothing happens to spur $VIX to the upside. Buying $VIX calls isn’t any better, because their underlying is the futures, so the underlying is wasting away every day that nothing happens – and the call premium is also wasting away.
As noted above, the premiums on the $VIX futures are huge right now – more than five points of premium on the October futures, for example.
What about buying SPY or $SPX puts? That might be better, but the farther out of the money you buy, the higher the implied volatility you will pay. And those, too, will waste away if nothing happens. Note that if one is buying these puts for protection, he typically buys them out-of-the-money in order to keep the cost of protection down...
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