Bizarre volatility bet in the options pits is a head scratcher ahead of Fed rate decision

• The purchase included 563 VIX 110-strike puts for $5.1 million and 130-strike puts for $1.2 million, with the VIX trading at just 17.2, making these extremely deep in-the-money positions with high delta
• S&P 500 options implied only a 0.8% move at Wednesday's expiry, unusually low for a Fed meeting, while the VIX holding above 16 typically implies 1% daily moves, suggesting the volatility gauge may be overpriced
• Experts believe the trade is likely part of a complex strategy involving VIX futures and calls rather than a standalone position, possibly exploiting the pricing gap between VIX options and underlying futures

Summary

An unusual $6.2 million options trade on the VIX volatility index has puzzled market analysts ahead of Wednesday's Federal Reserve rate decision. A trader purchased 563 110-strike VIX puts expiring October 21 for $5.1 million, plus $1.2 million in 130-strike puts expiring November 18—the largest single premium trade of the day.

Key Details:

• The VIX closed at 17.2, making these extremely deep in-the-money puts with breakeven around $19
• Deep in-the-money puts have high delta, suggesting strong conviction that volatility will decline over two months
• No open interest existed on these strikes prior to Tuesday's trade
• The bond market prices a 90% probability of a Fed rate hike

Market Disconnect:

Significant pricing discrepancies exist across volatility products:

• VIX options volume has been above average for nearly a week, with the gauge reaching 18 last Thursday
• S&P 500 has experienced sub-1% daily swings despite VIX holding above 16 (which typically implies 1% daily moves)
• S&P 500 options imply only a 0.8% move at Wednesday's expiry—unusually low for a Fed meeting
• The gap between VIX index and futures is near the highest since June

Expert Analysis:

Analysts believe this isn't a standalone position. Noel Smith of Convex Asset Management suggests the trader may be hedging short call positions. SpotGamma's Brent Kochuba proposes it could be a spread trade between VIX options and underlying futures, allowing the trader to lock in price differences as long as VIX stays below 110.

The trade suggests major market participants are pricing near-term outcomes differently, creating potential arbitrage opportunities in volatility products.