VIX Drops Below 20: How Traders Are Hedging With a Call Butterfly Strategy
The CBOE Volatility Index (VIX) has settled below 20, closing at 17.99 yesterday. This level sits near the lower end of its 2024 range, prompting traders to consider strategies that hedge against sudden market downturns. One such approach involves a long call butterfly using VIX options—a structured trade that balances cost and potential reward. A long call butterfly on VIX options is built by buying one call at a lower strike, selling two calls at a middle strike, and buying one call at a higher strike. For the June 18th expiry, this would mean purchasing the 17 strike call, selling two of the 25 strike calls, and buying one of the 33 strike calls. The total cost for this setup is $268, with the maximum possible loss limited to this initial payment.
The trade offers three possible outcomes based on where the VIX lands at expiration. If the index stays below 17, the position expires worthless. Should the VIX rise between 20 and 30, the trade begins to profit, reaching its peak gain of $532 if the index closes exactly at 25. A surge above 30 would cap gains, as the higher strike call limits upside. Unlike standard stock options, VIX options behave differently due to the index’s mean-reverting nature. Traders must also account for timing—sharp volatility spikes before expiration may require taking profits early. The strategy serves as a cost-effective way to guard against a sudden stock market selloff, though risks remain if the VIX fails to move as anticipated.
This butterfly trade provides a defined risk-reward profile, with a maximum loss of $268 and a potential gain of $532. Its success hinges on the VIX rising into the 20–30 range by mid-June. Traders using this approach must monitor volatility closely, as early spikes could alter the optimal exit point.
