How Trading Volatility Has Changed

Volatility Exchange Traded Products (ETPs) have undergone a lot of changes in the last year or so. Following the after-hours spike in the VIX Index on February 5, 2018, four VIX products have been liquidated and two deleveraged. Credit Suisse liquidated XIV, Nomura terminated 2049:JP, REX Shares shuttered both their offerings VMAX and VMIN; and ProShares deleveraged both SVXY and UVXY. While you may not have ever heard of some of these products, XIV and SVXY had been two of the most popular and liquid VIX linked ETPs in existence. But liquidation and deleveraging were not the only changes to the volatility trading landscape last year.

FINRA Warns Broker/Dealers

Back in October 2017 the Financial Industry Regulatory Authority (FINRA) wrote to brokers and advisors reminding them of their 'sales practice obligations' when dealing with volatility-linked ETPs. In retrospect their reminder came at a good time, during a period of rapid growth in VIX ETP interest, and only four months before the implosion of the popular inverse VIX ETPs. Originally designed for sophisticated and institutional clients only, FINRA had noted that many VIX ETPs were being traded by far less sophisticated clients who they believed may not have fully understood their complexity.

FINRA's warning to the regulated community seemed clear: all recommendations to customers must be based on a full understanding of the terms, features, and risks of the products being recommended. But the problem with VIX ETPs is that very few brokers, dealers, or even advisors seemed to appreciate just how complex these products are, and this may explain why many brokers failed to react sooner. February 5, 2018 was a wakeup call for many.

I started my career as a derivatives trader with Barclays and contributed to the creation and popularity of numerous volatility linked products, including VIX futures and ETPs like the VXX (now VXXB). In 2017 I took to helping investors better understand these products and have written extensively on VIX products.

So are FINRA's warnings finally being heeded, and did February 5, 2018 convince people that products linked to VIX futures are more complicated and potentially more risky than they thought? Well, I think the outcome has been mixed. Some more conservative brokers have begun placing restrictions on VIX ETPs, and some retail investors have given up trading them altogether. But the market can have a short memory, and the interest in the popular short volatility trade using VIX ETPs is growing again, albeit under a few new caveats and restrictions.

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This article is not intended as, and does not constitute, investment advice. Investing involves risk, including the possible loss of principal. Past performance does not guarantee future results. All ...

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