Sunday, August 20, 2017

VIX Futures and Volatility Exchange Traded Notes Drive Volatility

There is now strong evidence that the increased volatility of the spot VIX is due to the growing use of volatility exchange-traded products and futures. About a month ago Alex Rosenberg of CNBC noted:

Interest in the XIV exchange-traded note has surged this year alongside its price. It shouldn’t be too surprising that the XIV exchange-traded note, which is designed to deliver the inverse performance of the well-known CBOE Volatility Index (or the VIX) on a daily basis, is attracting fresh attention after surging as much as 87 percent this year. 

In terms of the dollar value of shares traded, the short-VIX-futures XIV has actually surpassed the long-VIX-futures VXX. “We think it’s especially interesting that there is now more XIV trading than VXX, perhaps pointing to the growing interest in shorting volatility among retail [investors] and others who are not specialists in volatility trading,” Pravit Chintawongvanich, head of derivatives strategy at Macro Risk Advisors, wrote in a Wednesday note to clients. 

As for Schlossberg, his warning about the product is based on his view that volatility is set to rise from its current, ultralow levels. “It’s simply a dangerous trade from a macro point of view,” he said Thursday. “As central banks begin to increase rates, we’re going to see more volatility, and this [product] is going to show some very negative days.” Read more

After the huge volatility spike last week, volumes and open interests in short volatility ETNs kept increasing. Mark Melin of ValueWalk pointed out

The VIX index could drop further after hitting recent highs above 16 on August 11. After the recent up and down behavior of the VIX index, traders have placed short bets on the VIX ETN to the tune of $393 million. These traders are looking for the index to fall near 10.79, the July / August average, Dusaniwski believes.

While most of the VIX pricing comes from the S&P 500 futures, there is also the pressure placed on the market by ETNs and ETFs, which can force market makers to hedge with S&P 500 puts and create a self-reinforcing cycle.

In part, this imbalance mirrors exposure in the ETN that can be tilted in excess of its nominal asset levels. “The VIX ETNs are one of the few securities that at times have short interest which are larger than their AUMs,” Dusaniwski noted, explaining that “it is difficult for asset managers or brokers to create ETN shares on demand because their underlying assets are illiquid or expensive bilateral swaps or futures contracts, and not plain vanilla equities.”

The VIX has been a roller coaster lately, with mean reversion occurring quicker than average in this recent bout of volatility. In the wake of a larger market price adjustment, such as that Gundlach is expecting, the mean reversion might take longer if the past is any guide to the future. Read more

Let’s look closely how VIX futures and ETNs can drive the market volatility.  Kim of CNBC explained

One accomplished options trader said the dramatic one-day VIX surge Thursday likely stemmed from traders being forced to close out losing volatility positions.

“When I see really out sized moves in VIX like yesterday I have to think the reason isn’t just people scrambling for protection as much as some of the so-called smart money being forced to cover their naked shorts,” CNBC contributor Jon Najarian, founder of, wrote in an email.

“If the market moves too quickly to the short strikes, the trader and or his or her clearing firm are forced to buy back the short positions at the worst possible time, when volatility is elevated,” he added. Read more

Market dynamics are changing. The winning traders are those who stay ahead of the curve.


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