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Options trader bets $4 million on a major volatility spike

Options trader bets nearly $4 million on a volatility spike

Stocks surged to all-time highs Thursday morning, a day after President Donald Trump said Iran appeared to be standing down after it launched missiles at U.S. targets in Iraq.

The strike caused a major overnight sell-off in the S&P 500 futures market on Tuesday, but just about all of those losses had been recovered by Wednesday's opening bell. In fact, the event barely moved the needle on the CBOE Volatility Index (VIX), which sits lower now than it did at the beginning of the week.

Not all traders are certain that the worst is over, though.

"Very shortly after the open today, around 9:40 this morning, we saw call volume in VIX outpacing put volume by about 4 to 1. Now, it is common for calls to outpace puts, but this is still double the normal ratio that we would see," Optimize Advisors President Michael Khouw said Wednesday on "Fast Money."

"That was the result of a single, very large trade," said Khouw. "Somebody purchased 75,000 of the Feb. 25 VIX calls. They spent about $0.49 per contract for each of those."

Since each contract represents 100 of those calls, this purchase translates to a bet worth nearly $4 million in premium that the volatility index will spike above 25.49 by Feb. 19 expiration.

The volatility index itself hasn't risen to that level in more than a year, but as Khouw would point out, that doesn't mean this bet is ill-advised.

"When you're looking at VIX options, they actually represent the VIX futures," said Khouw. "We saw them spike over 18 overnight on that news of what was going on in Iran."

The volatility index was trading 0.45 points lower on Thursday, while VIX futures were trading about 0.25 points lower.