When an Index Becomes a Security

Thursday, July 25th, 2013 | Vance Harwood

Recently I have been analyzing long term volatility trends using S&P 500 index daily results.  One of the things I calculated was the high-low daily range expressed in percentage.  The chart looks like this:


What caught my eye was the drop in the lower bound in 1982.  Before 1982 the daily range rarely dropped below 1%, and then it dropped instantaneously to around 0.3%.  The upper bound did not seem to be significantly affected.   I zoomed in on the first half of 1982.


The shift happened on April 21st, 1982.  That date didn’t ring any bells for me, so I did a Google search and found this.


This was the day S&P 500 Futures started trading.  I don’t think the change in the intraday range was a coincidence.

The S&P 500 index went from being a metric to an investible security, and the behavior of the entire market was impacted.  This change was almost certainly driven by arbitrage.  With futures it’s straightforward to capture any signficant differences between what a future is trading at and the value of the underlying stocks (see this post for more info).  Arbitrage tends to keep the futures price aligned to the index, but since the underlying stocks are being bought/sold en-masse as part of the arbitrage operation—without regard to their individual situation it also increases the correlation between stocks in the index.

Since this beginning in 1982, the rise of the tradable index has changed the face of investing, and is one of the key drivers of the increased volatility of the market.

SPXH—Hedging the S&P 500 For Free?

Thursday, September 25th, 2014 | Vance Harwood

The holy grail of investing is achieving high growth with low risk.   Practical strategies mix different types of investments in the hope/expectation that losses in some areas will be offset by gains in others.  Unfortunately this has gotten tougher over the years because many asset classes (e.g., commodities, bonds, stock market sectors) now tend to move in lockstep when the market is panicking—making it difficult to get effective diversification.

Some investments like puts on a stock or index position reliably move in the offsetting direction, but are expensive, extracting ongoing costs that reduce your overall return—sometimes for years.  Your return can be pretty bad if a correction or bear market doesn’t come along.

VelocityShares’ new TRSK and SPXH ETF’s offer some interesting new tradeoffs between growth and risk.   Both funds use the S&P 500 index as the growth driver with 85% of the assets. The remaining 15% is invested in volatility positions with the intent of minimizing the primary risk to the equity position—big bear markets.

The chart below is my simulation of how a $1K investment in these products at the all-time high in 2007 would have fared during the 2008/2009 bear market compared with SPY, the biggest S&P 500 index ETF.


While not undamaged, the simulation shows that TRSK / SPXH would have fared significantly better than SPY.


Max Drawdown % Recovery Time to Prev. High

SPY (div reinvested)

 55%  54 Months  (Mar-2012)


 35%  15 Months (Jan-2010)


 40%  17 Months (Mar-2010)


During a bear market TRSK will hold its value better, but in sustained bull markets, where the market spends most of its time, SPXH should be a better performer.


While TRSK gained 80% over this 3 year period, SPXH gained 110%—almost identical to SPY’s performance.  SPXH’s level of portfolio protection was free!

SPXH and TRSK are the first volatility exchange traded products to be structured as Fund of Funds (FoF).  Instead of investing in the S&P 500 directly these VelocityShares funds hold equal portions of the three largest S&P 500 Index ETFs: SPDR’s SPY, iShares’ IVV, and Vanguard’s VOO.   Because the annual fees of these giant funds are minuscule (.09%, .09%, and .05% respectively) the traditional complaint about mutual fund style Fund of Funds—paying high fees for both the fund and the funds it holds does not apply.

On the volatility side, the default ETFs will be ProShares’ UVXY 2X long and SVXY -1X inverse funds.  These have annual fees of .95%, but from reading the VelocityShares TRSK/SPXH prospectus it appears that the FoF managers intend to implement the volatility positions with swaps whenever practical, which should lower the fees that must be paid to other companies.   The VelocityShares funds themselves will charge an annualized fee of 0.71%.

SPXH and TRSK will  be the second and third volatility funds to distribute a dividend from the equity portion of the asset allocation (PHDG was the first).  The S&P 500 composite yield has been running around 1.75% per year, so I expect these funds to yield around 1.5%.   Be aware that the indexes that these funds attempt to track assume dividends are re-invested, so if you want to track the indexes with your investments you should turn-on automatic reinvestment of dividends.

By providing two funds with different hedging characteristics VelocityShares acknowledges that one size does not fit all.   TRSK provides better downside protection, but lowers the return during sustained bull markets.  SPXH and SPY had compound annual growth rates of about 20% during the 2009 to 2013 bull market.  TRSK’s annual return during that same period was around 16%, so the additional protection (unneeded in this case) reduced the growth rate by around 4% per year.

I don’t know what it is about volatility investing, but it seems to have a special talent in producing products with dizzying complexity.  In the case of TRSK and SPX we have two funds based on indexes that are based on funds that are based on other indexes that are based on futures that are occasionally synchronized with another index (CBOE VIX).  To help navigate this maze I’ve created a hierarchy and listed some associated resources:

Level 1

Ticker Description Reference Index Website Historical data Resources
TRSK VelocityShares Tail Risk Hedged Large Cap ETF VelocityShares Tail Risk Hedged Large Cap Index VelocityShares ETFsProspectus Not Available White Paper
SPXH VelocityShares Volatility Hedged Large Cap ETF VelocityShares Volatility Hedged Large Cap Index VelocityShares ETFsProspectus Not available White Paper

Level 2

Ticker Description Reference Funds/Indexes Website Historical data Resources
TRSKID VelocityShares Tail Risk Hedged Large Cap Index SPY / IVV / VOO / UVXY/SVXY  (ref SPVXTRSP) VelocityShares Indices Not Available Index
White Papers
SPXHID VelocityShares Volatility Hedged Large Cap Index SPY / IVV / VOO / UVXY/SVXY(ref SPVXVSP) VelocityShares Indices Not Available Index
White Papers

Level 3

Ticker Description Reference Indexes Website Historical data Resources
SPVXTRSP S&P 500 VIX Futures Tail Risk ER Short S&P 500 VIX Short-term Futures Index (SPVXSP) VelocityShares Indices Google Finance Index MethodologyWhite Paper
SPVXVSP S&P 500 VIX Futures Variable Long/Short ER Short Term S&P 500 VIX Short-term Futures Index (SPVXSP) VelocityShares Indices Google Finance Index MethodologyWhite Paper

Level 4

Ticker Description Reference Securities Website Historical data Resources
SPVXSP S&P 500 VIX Short-term Futures Index VIX Futures S&P Indices TR version (column B) Index Methodology


A Tale of Two Bulls

Friday, May 17th, 2013 | Vance Harwood


The prices of SPY (S&P 500) starting in March of 2003 and of 2009 have tracked each other surprisingly well over a 6 year period.   The current market has managed higher highs each year, but then that advantage has evaporated by the Christmas holidays.

This year the market has already achieved the higher highs part of the pattern—and for the first time since this recovery begain the VIX levels between the two bull markets have become comparable.   If 2013 follows the 2007 pattern we will see a significant up-tick in volatility later this year—with the VIX reaching at least the low 30s.   In 2007 the market went into its sideways pattern around May 18th.


Prediction: Dec 31,2013 S&P 500 close at 1468.38 up 2.96%

Thursday, January 23rd, 2014 | Vance Harwood

Update:  In the post below I wonder how long the close correlation between the S&P 500 and its prices six years previous will continue.   December 31, 2014 provided the answer:  5 years—the correlation failed in 2014 with an ending difference of 25.9%.  No half measures here.   This sort of pattern matching between historical periods and the present is a favorite pastime of many financial writers, but the bottom line is that most of the time it’s not predictive.   For more see “Patterns, Predictions, and the Correlation Fairy.”

Originally posted on 23-Feb- 2013, updated with the December 31st, 2014 closing values. 

My forecasting technique has correctly predicted the S&P 500’s year-end close with an average accuracy of 1.6% for the last 5 years:

Year End Estimated  Actual % Difference
31-Dec-08 879.82 903.25  +2.66%
31-Dec-09 1111.92 1115.1  +0.286%
30-Dec-10 1211.92 1257.88  +3.79%
30-Dec-11 1248.29 1257.60  +0.75%
31-Dec-12 1418.30 1426.19  +0.56%
31-Dec-13 1468.38 1848.36  +25.88%

This forecast doesn’t require much computation—it’s the year-end closing value of the S&P 500 six years prior.   The chart below shows SPY (effectively 1/10 of the S&P 500) from 2003 to 2007 with SPY from 2009 to the present superposed on the same day of the month.


At the bottom I’ve shown the VIX index for these two different time spans.

I don’t believe charts from the past are reliable in predicting the future, but since seeing this pattern in November, 2009 I’ve been surprised at its close correlation (0.94!)   This year’s divergence was less than 2011’s, with 2012’s SPY going as much as 11% above the 2006 levels and only 3% below.

Correlation does not necessarily imply causation.   Nobody believes that today’s  market is consulting the 2007 stock records to determine its movements, but on the other hand this pattern does not feel like a random happenstance.  I think the similarity comes from both periods being  recovery phases after major crashes.   The big question is how long will this tracking persist.

If this pattern holds the S&P 500 will end 2013 with a paltry 3% gain—likely with a lot of volatility between now and then.   Some of the factors that will be influencing the market this year:


  • In 2007 we were getting into the frothy part of the housing boom/bubble.  Qualified buyers were getting scare and prices were sky high.  In 2013 housing seems poised for normalcy, with the foreclosure backlog reduced to manageable levels and new starts climbing.   New housing is a great creator of jobs and associated demand for materials, appliances, furniture, etc.
  • Short term Treasury bills in January 2007 were yielding 4.93%—65 times the January 2013 rate of  0.075%.   Even with that level of economic support from the Fed, this economy is struggling to create jobs.  The economy will need to improve quite a bit before the Feb starts applying the monetary brakes—and interest rates start their inevitable climb.
  • Given 2007’s high interest rates I expected its inflation rate would have been high, but actually inflation was easing in 2007, averaging 2.85%—not much higher than 2012’s 2.07% rate.
  • In general unemployment remains high, and wage increases have been very small.   It’s possible that structural shifts in the economy have permanently reduced the need for medium to low skill jobs—which would be bad news for demand.
  • Europe has been relatively quiet.  Clearly the European Union has decided to pay what ever it takes to keep Greece in the union, and this has reduced the overall fear factor.   A destabilizing factor is the very high unemployment rates in the weaker countries.

Market valuation and money flows

  • The Shiller inflation adjusted PE ratio for the S&P 500  is currently 21.6, which compares to 27.20 in January 2007—20% lower.    However, historically this PE ratio has averaged 18.5, so you can argue we’re already near the top.
  • There’s a lot of money parked in bonds and cash.  If it flows into equities we’ll see a run-up—but it feels like these investors are arriving very late in the recovery.   Has the “buy high, sell low” crowd just arrived at the party?

Psychological Barriers 

  • The 1550 level on the S&P 500 index presents a daunting 13 year old resistance level.  No one wants to be the poor sucker that buys at the top.

S&P 500 Resistance

S&P 500 Resistance


One thing is clear, regardless of how 2013 goes, we don’t want a repeat of 2008 in 2014.

SPY 2003 -- 2008

SPY 2003 — 2008


Prediction: Dec 31,2012 S&P 500 close at 1418, up 12.78%

Thursday, January 17th, 2013 | Vance Harwood

Originally posted 10-Jan-2012

One forecaster has correctly predicted the S&P 500 year-end close within an average of 2% for the last 4 years:

Year End Estimated  Actual % Difference
31-Dec-08 879.82 903.25  +2.66%
31-Dec-09 1111.92 1115.1  +0.286%
30-Dec-10 1211.92 1257.88  +3.79%
30-Dec-11 1248.29 1257.60  +0.75%
31-Dec-12 1418.30    ??


This forecast is not from a  human, or a computer program—it’s the year-end closing value of the S&P from 6 years prior.   The chart below shows SPY (effectively 1/10 of the S&P) from 2003 to 2006 with SPY from 2009 to the present superposed on the same day of the month.

At the bottom I’ve shown the VIX index for these two different time spans.

I don’t believe patterns from the past are reliable in predicting the future.   It’s not surprising that markets recovering from crashes will show a similar trajectory, but since first seeing this pattern in November, 2009 I’ve been surprised at the close correlation.   This year showed the biggest divergence, with 2011 SPY going as much as 19% above the 2005 SPY and 10% below before moving back into synchronization.

One thing is clear—volatility since the 2008/2009 crash continues to be elevated.   I predict that the market in 2012 will not be for the faint of heart.