Born to Die: Inside XIV, the Busted Volatility ETF

Born to Die: Inside XIV, the Busted Volatility ETF

Born to Die: Inside XIV, the Busted Volatility ETF

Shorting volatility, or betting on calm stock market conditions, had been one of the most successful trading strategies until Monday, when a massive selloff in US stocks derailed some popular short volatility exchange traded products (ETPs).

Credit Suisse said on Tuesday it would terminate the second-largest publicly traded product tracking swings in the S&P 500 index after its value plunged during the recent selloff in global markets. Credit Suisse shares fell by as much as 8 percent during the European trading day, due to angst that the bank is ensnared in big losses on an exchange-traded note that bets against volatility. The bank also said that the XIV ETC activity is considerate of the market volatility of today and there Credit Suisse will not suffer any material impact.

The slump in USA stock prices which began on Friday, as bond yields rose with inflation fears after better-than-expected labor market data, led to massive unwinding of short position in VIX related products and some industry calls for tighter regulation.

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The redemption of the note will likely leave investors with a fraction of their initial investment. On Reddit, it's easy to find comments such as, "Didn't think this would blow up like it has".

The trigger of these feedback loops is the constant rebalancing that exchange-traded notes like the XIV and the SVXY require.

While these short volatility products are marketed as complex and risky products aimed at sophisticated investors who are cognizant of the risk they are undertaking, the success of these products has reeled in a lot of retail interest.

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The drop also raised fears of big losses from hedge funds and other investors unfortunate enough to be holding this security and unable to unwind it. The institutional investor owned 10,088 shares of the company's stock after selling 9,912 shares during the quarter. Right now it is not really clear how this could reflect on the various products having short volatility for example some of the volatility ETPs traded down more than 50% after hours.

"The holdings jumped from short 988 Feb contracts to short 4,758 Feb contracts and from short 2,418 March contracts to short 14,317 March contracts", notes Peter Tchir, head of macro strategy at Academy Securities Inc.

Trading was halted in VelocityShares Daily Inverse VIX Short-Term ETN (XIV), which trades under XIV, according to a market statement Tuesday.

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