During the 2008 financial crisis, investors began focusing increasingly on stock market volatility, looking for ways either to hedge against it or to profit directly from it. The most popular product linked to volatility has been the iPath S&P 500 VIX Short-Term Futures ETN (VXX), launched in 2009 and maturing on Jan. 30, 2019. The issuer, Barclays PLC, has a similar new product, the VXXB.
Here are some key facts about the VXX exchange-traded note.
A Primer on the VXX
- Launched in 2009
- Enables investors to bet on the size of swings in the S&P 500 Index (SPX)
- Used by individual investors and hedge fund managers alike
- Peaked at $2 billion under management in Feb. 2018, now $800 million
- Structured as a debt instrument with a maturity date of Jan. 30, 2019
- Will be replaced by the VXXB, which has other features
Source: The Wall Street Journal
Significance for Investors
In a two-year span including the 2008 financial crisis and a deep bear market, nervous options traders sent the CBOE Volatility Index (VIX) soaring by more than 700%, the Journal notes. The VIX measures expected price swings in the S&P 500 Index over the next 30 days, based on the trading of options contracts linked to it.
The VIX often is called a fear gauge for the market. Similarly, the Investopedia Anxiety Index (IAI) was created to assess readers' levels of concern about the economy, the securities markets, and the credit markets.
As the VIX soared and stock prices crashed, so did investor interest in finding ways to profit. This spurred the development of products linked to the VIX, which is a market index, not a tradable security. The VXX, launched in 2009, became the most popular of these products, based on assets and trading volume, per data from FactSet Research Systems cited by the Journal.
Structured as an exchange-traded note, the VXX trades like an exchange-traded fund (ETF) or a stock. However, ETFs are debt instruments with specified maturities. For the VXX, that date is Jan. 30, 2019. Investors still holding shares as of then will receive a final payment based on its net asset value at the close on Jan. 29.
"If you hold your ETNs as a long-term investment, it is likely you will lose all or a substantial portion of your investment," the VXX prospectus warns, as quoted by the Journal. Indeed, FactSet calculates that the VXX has lost a staggering 99.96% of its value since inception, due to the high costs of its trading in VIX futures contracts.
As a result, the VXX only has made economic sense as a tool for short-term speculation. That also can be very risky, as evidenced by the collapse of other VIX-linked products when volatility unexpectedly spiked in Feb. 2018.
To replace the VXX, Barclays launched similar product in 2018, the iPath Series B S&P 500 VIX Short Term Futures ETN (VXXB). It has a much longer maturity, 30 years rather than 10, and it has an "issuer redemption" option, or call provision. Barclays would use this provision to redeem the VXXB notes early if the product became unprofitable for them to maintain. The VXXB has about $230 million under management, per FactSet.
Betting on the future direction of stock market volatility can be a highly risky business, as evidenced by the experienced traders and speculators who got wiped out in February 2018. Investors who do not understand the complex risks, or who lack the capital cushion to absorb a complete loss in VIX-related products, probably should avoid them.