United States stock volatility spikes; short volatility ETPs implode
United States stock volatility spikes; short volatility ETPs implode
Volatility spike boosts options hedging activity
07 February, 2018, 17:45
The continual decline in volatility, along with roll yields from shorting volatility futures in contango, juiced the returns for XIV and SVXY.
"It's unusual to have the kinds of moves we've seen today and after hours in the inverse vol complex", said Dave Nadig, CEO of ETF.com "But it's worth pointing out, these funds did essentially what they've been created to do from the beginning―provide short-term speculative vehicles for betting against volatility".
One trader's pain, however, is another's gain.
The CBOE Volatility Index, better known as the VIX, is the most widely followed barometer of expected near-term volatility for the S&P 500 Index. Before Monday, the biggest one-day move in the VIX was 64.2%, which occurred in February 2007. Similar to index-based ETFs, ETNs also track some sort of index as part of their investment strategy.
The S&P 500 had not fallen by more than 5 percent for more than 400 days, the longest run since the 1950s, according to Mark Haefele, chief investment officer at UBS Wealth Management.
Stocks slid in highly volatile trading on Monday, with the benchmark S&P 500 index and the Dow Jones Industrials suffering their biggest respective percentage drops since August 2011 as a long-awaited pullback from record highs deepened. Like the XIV, the ZIV is tied to VIX futures contracts, but the ZIV contracts are medium-term rather than short-term.
While these are specialised products aimed at sophisticated investors, the sharp unwinding of short volatility positions has highlighted the inherent risks in such strategies.
The spike in volatility does open up some attractive options market opportunities.
During its rapid surge higher, the VIX outpaced the VSTOXX, an event analysts flagged as an extreme move, also suggesting there would be a rapid normalisation. Jump Trading LLC bought a new position in Credit Suisse AG - VelocityShares Daily 2x VIX Short Term ETN during the 2nd quarter valued at approximately $253,000.
The impact of the market sell-off on other asset classes has been fairly muted though various gauges have risen reflecting broader uncertainty around markets in the short term.
Even during the financial crisis of a decade ago, the VIX never had a one-day increase anywhere close to that seen on Monday (though the absolute level of the index was much higher, peaking around 90 in October 2008).
"After-hours, the VIX reached 38 and futures more than doubled-it is not clear at this point how this will reflect on various short volatility products (e.g., some volatility ETPs traded down over 50% after hours)", wrote Marko Kolanovic, JPMorgan's quantitative and derivative strategist, in a note to clients late Monday.
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