Amid Volatility Surge, Credit Suisse Terminates VelocityShares ETN

Friday, 09 Feb, 2018

The liquidation of the VIX-linked ETPs has left many retail players smarting from big losses and led to calls for more regulation.

In recent years, its growth has been fueled by complex products, including VIX index futures and options, which allow traders to bet on whether markets will become more or less volatile. These ETNs were created to deliver returns if volatility stayed low.

"The day started out fairly orderly, but somehow it took a turn for a worse, and then panic set in", Randy Frederick, vice president of trading and derivatives for Charles Schwab in Austin, Texas. We have shown some of the exchange traded fund (ETF) and exchange traded note (ETN) products and have featured some of the key exchanges around the market rout.

Both the VIX and the VSTOXX have drifted lower since early 2016, staying at depressed levels below their 20-year average for almost two years - until Monday's slide in US stocks.

Although the washout was violent, it was extremely quick, and stock markets have bounced more than 5 percent off Tuesday's lows.

The warning also served as a victory lap of sorts for Kolanovic, who had been warning about a volatility blow-up for months leading up to Monday's chaos.

The VIX instruments derive their returns based on futures contracts, which also explains why their meltdown occurred at the end of futures trading.

Until last week, the "buy stocks, sell volatility" trade was working.

But thanks to years of generally low volatility, in part due to money printing and bond-buying policies pursued by the world's major central banks, investors have shoveled billions of dollars into so-called "carry trades" that often depend on financial calm persisting for long periods. On Monday, VIX soared 115% to its highest level in more than two years.

I've spent the last day talking to traders trying to reconstruct what might have happened. And the ProShares Short VIX Short-Term Futures ETF plunged 85%. Overall VIX options volume hit 3.6 million contracts, or about three times its average daily volume.

The repercussions have been severe for some funds.

VelocityShares Daily Inverse VIX Short Term Futures ETN: (NYSEARCA:XIV) to track the inverse daily performance of the S&P 500 VIX Short Term Futures Index. While XIV potentially triggered an acceleration event (closure clause) according to its prospectus, trading in SVXY halted for some time.

The problems these tracker funds are facing should not cause permanent damage to the broader market, investors said, as the total assets under management pales in comparison to the broader options market and equity market overall.

Derivatives markets indicated, however, that the spike in volatility of the past few days would not be sustained. Those notes will be redeemed at a cut of 96.1 per cent from its closing price on Monday, and will be delisted from the Tokyo Stock Exchange on February 19, Nomura said.

One way to make that bet was to buy an exchange traded note linked to the Cboe Volatility index, a widely watched but very inside baseball indicator of how Wall Street views risk in the stock market for the next 30 days.