VIX ETNs: Flows, Woes and Wows

April 11, 2012

Recent U.S. equity volatility may have you wondering if we’re back to the bad old days of 2011. But look before you leap into any VIX product.

The temptation to get positive exposure to volatility using a fund indirectly based on the CBOE Volatility Index is understandable: Recent jumps in the equity indexes have been large and generally negative.

And interest in volatility funds is running high. Investors sank just under $2 billion into the largest VIX product, the iPath S&P 500 VIX Short-Term Futures ETN (NYSEArca: VXX) in the first quarter of 2012, according to data compiled by IndexUniverse.

But this fund flows number leads to yet another cautionary tale on VIX products: Roughly half of this $2 billion in new money was destroyed by the fund, by my estimate.

We can compare net fund flows to asset levels over this same period to confirm this.

In a fund with zero return and perfect capital preservation (like cash), the change in assets under management would equal the net flows. For risky investments, the difference roughly equals the gain or loss from the fund itself. (The frequency and size of creations and deletions during the quarter plays a role, but the larger point holds true).

The bottom line is this: Almost $1 billion—$990.8 million by my math—was erased from VXX in the first quarter of 2012.

VXX Assets & Flows: Q1 2012 ($US M)

Sophisticated volatility traders often use combinations of products to execute their strategies, so hopefully they offset these losses elsewhere.

But for the average Joe or Jane, this value-destruction tale highlights both the need for extreme caution with these products and the sweet spot of their investment horizon, which is one day for most VIX products.

Back to the present: We shouldn’t expect VIX products to fare well in relatively long and tranquil periods like the first quarter of 2012.

A short time period with lots of price movement should provide better insight into how these funds perform. Here’s a peek at the performance of the three largest VIX funds compared with the VIX index itself from March 30 through April 10.


VXX vs. VXZ vs. XVZ vs. VIX: 3/30/12 - 4/10/12

The VIX index itself, shown in black, is up 31.5 percent. VXX in dark blue is up 22.2 percent—considerably less than the VIX index, but at least within shouting distance. And a 22.2 percent return for this brief period is a huge number to be sure.

But the iPath S&P 500 VIX Mid-Term Futures ETN (NYSEArca: VXZ) and XVZ, the iPath S&P 500 Dynamic VIX ETN (NYSEArca: XVZ), with returns of 8.3 percent and -0.3 percent, respectively, haven’t delivered the goods, even for this short period.

Bear in mind that none of these products is levered. They’re missing the performance of the VIX because they track VIX futures, not the VIX index itself. And their varying returns are explained by the particular futures exposure they use.

Getting into VIX products reminds me of the temptation to jump into a raging mountain river on a hot spring day, with results ranging from exhilaration to disaster: Better look before you leap.


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