Why VXX Is a Sucker Bet

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The late John Scarne, one of the world great experts on gambling, once wrotea treatiseexplaining why you can’t win at three-card monte. That’s the game where a grifter lays three playing cards on a makeshift table, instructing you to follow the queen. He turns them face-down, flipping the queen over now and then to make it easier for you to keep track. Sure enough, you pick the lady correctly a few times and win $20, $50, or even $100. "Hey, you’re pretty good at this," the con-man says. "Want to raise your bet to $200?" And so you do, noticing something you hadn’t spotted earlier — i.e., that the queen has a slightly bent corner that makes it easy to know where she is. The "broad-tosser" flips the cards around a few more times with some deft flourishes that are impossible to follow. But what do you care? There’s the bent card in the middle, and so you jump on his offer to double your bet yet again, to $400. You plunk down two more benjamins, tap the middle card as your choice, only to discover when he turns it face-up, bent corner and all, that it is NOT the queen. You would need to have read Scarne’s treatise to understand how the grifter, on his final toss, deftly unbent the corner of the queen and bent the corner of one of the other two cards in a nanosecond.

Sure, you’ll occasionally hit a winner that doubles your stake. The charts show one such opportunity that occurred this week. The left-hand graph is of the VXX, while the other shows near-term call options with an exercise price of 30. The dramatic selloff of the last few days caused VXX to spike nearly 40%, from 21.5 to 29.5. If you’d seen it coming and bought the options for, say, 0.55 just before takeoff, you could have sold them for as much as 1.60.  In actuality, only a handful of contracts traded at that height, and even a demon-genius trader would have done well to exit for around 1.20, doubling his or her money after commissions. But the trader would have waited for nearly two months for the opportunity to make that $105, presumably frittering away $200-$300 in the process.  That’s the way the game typically works, and although it looks as easy as scattering five milk cartons on the carnival midway, you should be aware that even a Category Five hurricane could not knock down one of those cartons that has been specially modified.

Rick’s Picksnonetheless offers occasional VXX bets, but only when the index is bottoming precisely at a Hidden Pivot target. In this case, we might have bought some calls if it had touched one at 21.03, but it never got below 21.41. And even if we had done the trade and doubled our money, we might wait for another 4-6 months for another such opportunity. That’s why we never make VXX bets unless there’s a chance to quadruple our money or better. Even then, outcomes will compare to betting on 40-to-1 horses all the time. Winning can be fun when it happens, but even the smartest players shouldn’t plan on making a living at it.

www.RickAckerman.com