Credit Suisse Roiled by Volatility Bet

Credit Suisse Roiled by Volatility Bet

Although it was originally intended for commodity traders to help identify the start and finish of market trends, it is frequently used to analyze stocks as well. In after-hours trading Monday, XIV suffered catastrophic losses.

The gauge of US stocks volatility known as VIX, which tracks the volatility implied by options on the S&P 500, recorded its biggest one-day surge in more than two years as investors rushed to buy derivative products to protect against a further slide in stock prices.

For the Dow, the fall at one point of almost 1,600 points was the biggest intraday point loss in Wall Street history. Multiple exchange-traded securities that are also supposed to be bets on calm markets were halted Tuesday after losing the majority of their value overnight.

Some market analysts believe the implosion of these complex instruments, which are favored by hedge funds, may have driven the VIX higher and stocks lower than they otherwise would have been.

Yet the popularity of these vehicles might have contributed to one of the most violent moves in USA equities in history: one that saw the Dow Jones Industrial Average slump more than 6 percent in a span of six minutes.

Dave Roberts, an independent trader of volatility products and associated derivatives, noted that at the expiry of the January VIX contract, the front and second-month contracts were trading at a fairly narrow spread, in contrast to the wider gap at the December expiry.


Normally, one-month futures contracts on the VIX trade at a discount to the spot price, a structure known as backwardation. The traders were betting against volatility while buying stocksthat has been close to historic lows. The VIX jumped from a value of 17.31 on Friday to 37.32 on Monday, a more than 115 percent surge in one day. The stock decreased 3.07% or $3.5487 during the last trading session, reaching $112.0013. Despite the losses, ProShares said the ETF will continue to trade as normal.

The 14-day ADX for S&P 500 Dynamic VIX ETN Ipath (XVZ) is now sitting at 27.71.

The repercussions have been severe for some funds. A late-session spike on Monday proved to be the undoing for the VelocityShares Daily Inverse VIX Short-Term ETN (XIV) and the ProShares Short VIX Short-Term Futures ETF (SVXY), each of which is created to provide single-day returns that are the inverse of the VIX.

On Tuesday, Credit Suisse announced it would liquidate its ETN-XIV on February 21. Leverage among the funds may be smaller than before the financial crisis, but they've been able to accrue more assets as momentum across markets marched forward to boost returns. That said, a decline in VIX-related volumes could be a short-term headwind for the exchange operator, as it has benefited indirectly from large bets against market volatility.

The spike in volatility does open up some attractive options market opportunities.

"We have been in this paradigm where when volatility spikes a little bit, a lot of cash comes out of the sidelines to get long some of these short volatility ETPs (exchange-traded products)", Omprakash said. The expected volatility calculated by the VIX index is based on a broad basket of options, put and call, which have the index as their underlying reference. The RSI is considered to be an internal strength indicator, not to be confused with relative strength which is compared to other stocks and indices.

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