TVIX Is Now The Focus Of Legal Frenzy

July 10, 2012

The strange tale of the TVIX—the VIX-related ETN—just got stranger, as lawyers start crying foul.


Another law firm is now looking into whether Credit Suisse failed to inform investors of all of the risks associated with investing in the VelocityShares Daily 2x VIX Short-Term ETN (NYSEArca: TVIX), a security whose creations were halted in February before being partially resumed in March.

New York-based Wohl & Fruchter LLP’s new investigation into TVIX is based on the claim that while the bank backing the ETN, Credit Suisse, pointed out “variables” that might affect TVIX’s return, it failed to identify the relationship between short- and longer-term risk measures, sometimes called “term structure,” the law firm said in a press release Tuesday.

Wohl & Fruchter’s investigation comes less than a month after Philadelphia-based Bernard M. Gross law offices filed a class action lawsuit in the U.S. District Court, Southern District of New York against Credit Suisse, representing investors who bought TVIX between Nov. 30, 2010 and March 22, 2012.

Officials at VelocityShares declined to comment.

The developing legal frenzy surrounding TVIX recalls the numerous lawsuits filed in 2009 against ProShares and Direxion, the two biggest ETF firms that sponsor inverse and leverage funds. Those suits stemmed from investors not understanding how returns on such geared and inverse funds can differ dramatically from those on their underlying indexes. Those suits are, for the most part, still pending.

In question in the case of TVIX is whether Credit Suisse failed to make sure that investors understood how so-called roll yields from investing in VIX futures could undermine returns from the VIX spot price; in other words, if they knew that contango in the VIX curve could eat up all of their returns overtime.

Contango is a condition wherein a given front-month futures contract is the cheapest on the curve, meaning investors pay up to roll into the next, more expensive contract when each contract they own is about to expire—something that erodes returns significantly over time.

The VIX market is consistently in contango—as much as 80 percent of the time—and the average differential between the nearby month and the next contract can be as steep as 6-10 percent.

Products like TVIX are designed to provide exposure to futures contracts linked to the CBOE Volatility Index, or VIX, the market’s leading measure of volatility. Such products spike when the stock market drops, but have generally been terrible long-term holdings.

Disclosures In Prospectus

The prospectus detailing the ETN goes through great lengths to outline various hypothetical performance scenarios, and details the risks investors face with VIX-related strategies, particularly if they hold them for longer than a day.

“The rolling of the futures contracts reflected in the applicable underlying Index may decrease your returns,” the company said in the prospectus in one of the sections disclosing risks. “A hypothetical investment that was linked directly to the performance of the VIX Index could generate a higher return than your ETN’s.”

Litigators appear to be arguing such disclosure was insufficient.

The Strange Tale Of TVIX

On Feb. 21, Credit Suisse—the bank that backs the ETN—halted creations on the product following massive asset inflows that jeopardized the bank’s ability to hedge the strategy’s underlying exposure. But persistent demand for TVIX pushed it to trade at a premium that neared 100 percent by the time Credit Suisse reopened the fund in March.

That premium all but evaporated once new shares started to hit the market on March 22, and TVIX’s price dropped 30 percent in one day as some $172 million disappeared.

The sell-off left a wave of questions—and investor gripes—in its wake; it also kicked off a Securities and Exchange Commission-led investigation into the matter.

It’s worth noting that the press release Wohl & Fruchter sent out on the investigation contained a carefully worded disclosure indicating that the statement amounted to a solicitation for plaintiffs as the firm looks to build a case against Credit Suisse.


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