Battle for VIX ETP Supremacy; China’s Flash Boys Ready for Derivatives

Jan 10, 2019

Lead Stories

Wall Street battles for supremacy in volatility market; Asset managers vie to launch replacement for iconic VXX fund
Richard Henderson and Joe Rennison – Financial Times (SUBSCRIPTION)
A fight for assets has erupted among volatility funds that allow investors to bet on gyrations in the stock market, as the current market-leading exchange traded product enters its final days.
Barclays’ $700m exchange-traded note, known by the ticker VXX, was the first of its kind when it launched in January 2009. The fund buys futures contracts on the Vix volatility index, also known as Wall Street’s “fear gauge”, which typically rises as equity prices fall.
/goo.gl/htUKMP

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****SD: Barclays is probably kicking itself for not giving VXX a much later expiration, but how could the bank know it would be so successful at inception?

This FT story adds the management fee angle to the VXX storyline we’ve been following, but the piece does leave quite a bit of the story untold. Of course it mentions the biggest VIX-linked ETP that went away – Credit Suisse’s XIV – but it doesn’t mention all of the other changes and delistings of vol products over the last year.

For instance, the (small in size) VMIN and VMAX offerings from REX were altered in February 2018 to use VIX futures farther out on the curve (based on not enough liquidity in the weeklys and a desire for a bit less, well, volatility in the offering). Then REX decided to close VMAX in Q3 2018 and VMIN in Q4 2018.

Rex wasn’t the only one to alter its offerings after the February vol-cano. Proshares changed its UVXY ETF from targeting 2x VIX returns to 1.5x. At the same time it changed its SVXY inverse VIX ETF offering to target -.5x returns rather than -1x.

And it wasn’t just in the U.S. — Nomura Europe Finance had to redeem its Tokyo-listed inverse VIX ETN the same way Credit Suisse did for XIV.

It also does not mention that ETNs expose you to more counterparty risk than ETF offerings.

Plus, leveraged VIX ETPs are part of the ongoing discussion about the safety of leveraged ETPs for retail investors. Just this week Vanguard announced it would not allow customers to trade leveraged funds (including SVXY.)

Last, I’ll give Vance Harwood of Six Figure Investing another shout-out for his recap of what happens when VXX “matures.”

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China’s ‘flash boys’ hedge funds eye end to hiatus
Noah Sin and Samuel Shen – Reuters
China’s data-driven “flash boys” – hedge fund managers who for years have been handicapped by government curbs on tools to short-sell stocks – are dusting off high-speed trading products as Beijing revives the country’s financial derivatives market.
China’s financial futures exchange last month relaxed trading rules on stock index futures and vowed to boost liquidity of that market, while the country’s two largest stock exchanges said they aimed to launch new stock index option products this year.
/reut.rs/2D0VWtX

****SD: The gates are slowly opening.

No One’s Really Freaking Out About a Slowdown in Europe
Eddie van der Walt and Ksenia Galouchko – BloombergQuint
Volatility traders bet calm will return; growth beats value; Tighter credit-default swaps signal sentiment is more upbeat
Europe is the epicenter for recession fears — but investors are cheering.
The continent’s biggest companies have started to outperform their U.S. peers on a forward-earnings basis, the cost of insuring against corporate defaults has fallen this year and traders are betting that volatility will decrease.
/goo.gl/PA2xjo

****SD: Because they’re too busy freaking out about Brexit? See below.

Pound Options Show Traders Positioning for Delay to Brexit Date
Vassilis Karamanis – BloombergQuint
Pound options traders seem to be positioning for the possibility that the U.K. will delay its exit from the European Union. Investors are now more negative on the currency in nine months time rather than on three-month contracts that capture the March 29 exit date, risk reversals show. That comes as the market has priced in the likelihood that Parliament will reject Prime Minister Theresa May’s Brexit deal next week, increasing the chances the government will be pushed to extend Article 50.
/goo.gl/bdg75B

****SD: Also from Bloomberg – These Nine Charts Show Just How Deeply Brexit Has Divided Britain

Low-Latency, High-Frequency Trading in the Public Cloud? The Time Is Now.
Larry Ryan, BJSS – TabbFORUM (FREE w/ REGISTRATION)
Low-latency, h????igh-frequency trading systems represent today’s intensive focus on eliminating technical barriers to ever-faster communication, processing and decision making. To stay ahead in the high-speed race, trading systems need to be designed to maximize throughput, minimize latency, and accommodate rapid development of additional functionality. It is unlikely that modern electronic markets’ relentless drive toward faster decision making will abate any time in the near future.
bit.ly/2FpkT4c

Banks raise bets on prime broking for struggling hedge funds
Lindsay Fortado and Laura Noonan – Financial Times (SUBSCRIPTION)
Big banks are throwing extra resources into prime broking, betting on their embattled hedge fund clients to provide a much-needed revenue boost as other areas falter.
Despite hedge funds taking a pummelling over the past three months in choppy market conditions, executives in the banks’ prime broking divisions that handle their trading and lend them money still expect the smartest managers to outperform.
/on.ft.com/2FoOIBC

****SD: I’ll refrain from a comment on this one as I just finished “When Genius Failed” (good book about LTCM) and I know that reading experience is skewing how I think about this prime brokerage trend.

Exchanges and Clearing

Record-breaking Month and Year for Cboe’s Stock Index Options
Matt Moran – Cboe Blog
Since 1983, Cboe has offered stock index options. In 2018, several new all-time records for volume and open interest were reported as investors faced heightened volatility. Index options have the potential to generate more income for options sellers who receive options premiums, help manage exposure and protect a portfolio from damaging huge drawdowns.
bit.ly/2D33ooN

****SD: Charts!

Technology

Charles River and AcadiaSoft Form Business Alliance to Expand STP Support for OTC and Exchange Traded Derivatives
BusinessWire
Charles River Development, a State Street Company, and AcadiaSoft Inc. have announced a business alliance to automate communication of margin calls and collateral estimates between counterparties in the Charles River Investment Management Solution (Charles River IMS) for OTC and exchange-traded derivatives.
/goo.gl/5ZMiF5

****SD: Recall that Charles River was bought by State Street last year.

Strategy

Making Money as Stocks Threaten to Falter
Steven M. Sears – Barron’s (SUBSCRIPTION)
It’s a disagreeable world. But most everyone agrees that interest rates are more likely to rise than not, the stock market should remain as erratic as national politics, and options volatility should remain elevated amid so much uncertainty.
/goo.gl/8gwHZF

Further Rally Seen for China’s Yuan as It Breaks Key Level
Tian Chen – BloombergQuint
China’s currency is at a five-month high, and technical indicators suggest more gains are coming.
Buying momentum is the strongest in almost a year and bearish bets have fallen to 12-month lows in the options market. A rising currency makes China’s financial markets more attractive to overseas investors — foreign flows into the country’s debt surged in December — which may further buttress gains.
/goo.gl/RYUeqH

Bank stocks could see big moves into earnings, but don’t chase them just yet
Pippa Stevens – CNBC
All eyes are on banks stocks ahead of earnings next week, and the Street is split on whether financial stocks are attractive at current levels.
Blue Line Futures President Bill Baruch says caution is warranted, while Susquehanna’s Stacey Gilbert says heightened volatility in the options market is a signal to buy.
/goo.gl/hptcuk

Miscellaneous

Study: High volatility significantly limits cryptocurrencies usefulness for portfolio diversification
Francine McKenna – MarketWatch
Cryptocurrencies aren’t really a traditional asset class since there’s no significant relationship between the returns on cryptocurrencies and returns on traditional asset classes, according to new research.
/goo.gl/ZXnphn

Volatility was supposed to be a lifesaver for stock pickers — here’s why it hasn’t been and why that could be signaling more market pain
Joe Ciolli – Business Insider Prime (SUBSCRIPTION)
In 2018, after a year spent in a nearly motionless state, the stock market rediscovered volatility.
It was supposed to be a watershed period for investors who make their living selecting stocks based on core fundamentals. Price swings picked up in earnest, theoretically creating endless opportunities for savvy traders to exploit.
/read.bi/2M0wjMM

Markets Bet on Patience From Powell and the Fed
Bloomberg (VIDEO)
Mandy Xu, equity derivatives strategist at Credit Suisse, Dan Skelly, head of equity model portfolio solutions at Morgan Stanley, and Greg Staples, co-head of fixed income at DWS Investment Management, examine market expectations that the Federal Reserve will practice patience on monetary policy. They speak with Bloomberg’s Jonathan Ferro on “Bloomberg Markets: The Open.”
/bloom.bg/2D0nHTI

****SD: For more Fed talk, see the FT’s Federal Reserve steps up talks on how to hit interest-rate target

Trader Who Racked Up $115 Million Losses Had People Trading on His Behalf
Lars Paulsson – Bloomberg (SUBSCRIPTION)
Report from Norwegian FSA highlights failures at exchange; Authority demands report on corrective measures by March 1
The Norwegian power trader who last year racked up losses of more than $115 million on Nasdaq Inc.’s power market had other people trading for him even though his membership of the exchange was solely personal.
bloom.bg/2FkOAnL

****SD: Nasdaq has been censured as a result of the Aas blow up.

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