It’s been over 10 years since VXX, the first volatility exchange-traded product arrived on the market. Since then 36 additional funds, using both Exchange Traded Notes (ETNs) and Exchange Traded Funds (ETFs) structures have been introduced. Terminations and closures have whittled that list down to 17 (as of 23-May-2019).
The remaining funds can be segmented into four major categories:
- VIX Trackers
- Hybrid Strategies
- Inverse Volatility
- Medium Term / Volatility Hedges
Below I’ve collected and to some degree ranked the funds within each of these categories. I’ve tried to be analytical about this, but I don’t pretend to be unbiased. I think everyone carries bias whether they admit it or not. The factors that seemed preeminent when ranking were:
- Does the fund do what the user expects?
- Is the fund big enough to have reasonable bid/ask spreads and be an attractive business for the company to support?
- Is the fund closely tracking its index?
I included other data (e.g., ETN vs ETF, option availability) that didn’t significantly impact my rankings, but might be useful information. For more information on all of these funds, including company websites and fund prospectus see volatility tickers.
In this segment, the user wants the fund to track the percentage moves of the CBOE’s VIX index as closely as possible. Other than impossibly slow learners, everyone else has figured out that these funds are only suitable as very short term investments (days at most) because they are typically ravaged by the roll losses associated with contango in the VIX futures that underlie these funds. UVXY, for example, has had a compound annual growth rate of -93% since its inception in October 2011.
daily % Moves
|Description||AUM $ ||ETN/ETF |
|1||TVIX||Decent||2X Short Term||ETN|
|2||UVXY||OK||1.5X Short Term||ETN (options)|
|3||VXX||Fair||1X Short Term||ETN (options)||Not covered under|
OCC portfolio margin
|3||VIXY||Fair||1X Short Term||ETN (options)|
|3||VIIX||Fair||1X Short Term||ETN (options)|
After a late start volatility funds that blend long and short volatility positions have done well, pulling into second place with combined assets of over $1.169 billion. There are two basic flavors of the hybrid funds, one type attempts to hold its value or even gain a little during bull markets but shine during big corrections/bear markets. I call these the “Hybrid-long” funds, because they are strategically long volatility. The funds that fall into this category are shown below:
Given the lack of big negative market moves the last three years it’s not shocking that these funds haven’t shown big gains, but I am surprised that the VEQTOR based funds (VQT & PHDG) have not done better given their high allocation into the S&P 500 (as high as 97.5%) during quiet markets. Even allocations as low as 2.5% to long volatility have dragged returns down significantly. In 2013 the S&P 500 went up 26.5%, while VQT went up 12%.
It was only natural that funds emerged to take advantage of the painful erosion that VIX tracker funds suffer most of the time. Of course you can short VIX trackers directly, but they are often tough to borrow, many investors can’t (e.g., in an IRA) or won’t short them. In addition, without re-balancing, a successful short position loses leverage. These inverse funds re-balance daily, so their leverage stays at -1X. The challenge with an inverse position is not getting toasted when volatility spikes.
The unremitting bull market the last couple of years has been very kind to the inverse volatility funds. Things will get rough at some point—these are not buy and hold investments unless you have a stomach of steel. Alternatively have an exit strategy or an effective hedge strategy in place.
Medium Term / Volatility Hedges
The medium term volatility funds invest in the 4 to 7 month VIX futures. They used to be a good way to bet on longer term volatility trends, or to hedge short positions in short term volatility. However starting in 2010 the contango in medium term VIX futures started being a significant drag on these funds. Recently that drag has been in the 2% to 3% per month range. See VIXCentral for the current numbers.