Effective 26 September 2022, Barclays resumed share creations on VXX. This closed out a grim period, starting on 14-Mar-2022 when Barclays suspended share creations of VXX due to an administrative screw-up. Since the suspension, VXX has traded at premiums as high as 52% over its IV price. This premium over the IV price can develop because share creations are a key process required for doing the arbitrage operations that keep Exchange Traded Products trading close to their tracking indexes. For more on these processes see Why Arbitrage is Essential For Exchange Traded Products. The IV price tracks an index, SPVXSTR that is computed based on the settlement prices of VIX futures rather than the assets that Barclays holds. when VXX’s share creations resumed its tracking to the IV prices went back to the typical +-1% range.
This post will discuss what VXX is ( full name: iPath S&P Series B S&P 500 VIX Short-Term Futures), how it trades, how its value is established, what it tracks, and how Barclays makes money running it. VXX has been through some transitions recently. The original security matured in January 2019 and was replaced by VXXB, which was very similar except for a few items covered here. The brand name value of the VXX ticker symbol was considerable. VXX and its medium-term sibling VXZ were the first volatility-based exchange-traded products and they gathered considerable assets.
Legally VXX’s issuer, Barclays had to let VXX mature, so they created VXXB as a replacement. However, once a ticker has been retired it can be reused, so Barclays changed VXXB back to VXX effective May 2nd, 2019. For more on the VXX to VXXB transition see Goodbye VXX, Hello VXXB.
How does VXX trade?
- For the most part, VXX trades like a stock. It can be bought, sold, or sold short anytime the market is open, including pre-market and after-market time periods. With an average daily volume of 30 million shares, its liquidity is excellent and the bid/ask spreads are a penny.
- It has a very active set of options available, with five weeks’ worth of Weeklys and close-to-the-money strikes every 0.5 points.
- Like a stock, VXX’s shares can be split or reverse split— 4:1 reverse-splits are the norm and can occur once VXX closes below $25. For more on historic VXX reverse splits see this post.
- VXX can be traded in most IRAs / Roth IRAs, although your broker will likely require you to electronically sign a waiver that documents the various risks with this security. Shorting of any security is not allowed in an IRA.
How is VXX’s value established?
- Unlike stocks, owning VXX does not give you a share of a corporation. There are no sales, no quarterly reports, no profit/loss, no PE ratio, and no prospect of ever getting dividends. Forget about doing fundamental style analysis on VXX.
- The value of VXX is set by the market, but it’s closely tied to the current value of an index (SPVXSTR: S&P VIX Short-Term Futurestm) that manages a hypothetical portfolio of the two nearest-to-expiration VIX futures contracts. Every day the SPVXSTR index specifies a new mix of VIX futures in that portfolio. For more information on how the index itself works see this post or the VXX prospectus.
- Around 85% of the time the 2nd month VIX future is priced higher than the front month future. This configuration is called contango in futures’ parlance and is usually associated with a drop in VXX’s value. However, contango does not cause VXX’s decline. VXX’s daily roll of futures from the next to expire month the to 2nd month does not change its value. VXX’s value is established by the value of the VIX futures it holds. Normally when the VIX future’s term structure is in contango both the VIX futures will be trending down, but in some situations, typically associated with upcoming uncertainties like elections, the two front-month futures can be steady or increasing in value even when the 2nd month future is priced higher than the 1st month. VXX rising in value while the term structure was in contango occurred in late August 2020. For more on contango and its impact on VXX’s value see “The Cost of Contango, It’s Not the Daily Roll.”
- The SPVXSTR index is maintained by the S&P Dow Jones Indices and the theoretical value of VXX if it were perfectly tracking the index is published every 15 seconds as the “intraday indicative” (IV) value. Yahoo Finance publishes this quote using the ^VXX ticker.
- Wholesalers called “Authorized Participants” (APs) will at times intervene in the market if the trading value of VXX diverges too much from the IV value. If VXX is trading enough below the index they start buying large blocks of VXX—which tends to drive the price up, and if it’s trading above they will short VXX. The APs have an agreement with Barclays that allows them to do these restorative maneuvers at a profit, so they are highly motivated to keep VXX’s tracking in good shape.
What does VXX track?
- Ideally, VXX would track the CBOE’s VIX® index—the market’s de facto volatility indicator. However, since there are no investments available that directly track the VIX Barclays chose to track the next best choice: VIX futures.
- Unfortunately using VIX futures introduces a host of problems. The worst is horrific value decay over time. Most days both sets of VIX futures that VXX tracks drift lower relative to the VIX—dragging down VXX’s value at the average rate of 4% per month (30% per year). This drag is called roll or contango loss.
- Another problem is that the combination of VIX futures that VXX tracks does not follow the VIX index particularly well. On average VXX moves only 45% as much as the VIX index.
- Most people invest in VXX as a contrarian investment, expecting it to go up when the equities market goes down. It does a respectable job with the VXX averaging percentage moves -2.94 times the S&P 500, but 16% of the time VXX has moved in the same direction as the S&P 500. The distribution is shown below:
- With lethargic tracking to the VIX, erratic tracking with the S&P 500, and heavy price erosion over time, owning VXX is usually a poor investment. Unless your timing is especially good you will lose money. For a backtest of VXX starting in 2004, see this post.
How does Barclays make money on VXX?
- Barclays collects a daily investor fee on VXX’s assets—on an annualized basis it adds up to 0.89% per year. With current assets at $1.15 billion this fee totals around $10 million per year. That’s certainly enough to cover Barclays’ costs and be profitable. But even if it was all profit it would be a tiny 0.1% percent of Barclays’ overall net income— which was $1.8 billion in 2018.
- From a public relations standpoint, VXX is a disaster. It’s frequently vilified by industry analysts and resides on multiple Worst ETF Ever lists. You’d think Barclays would terminate a headache like this or let it fade away, but they haven’t done that even though 5 reverse splits—which suggests that Barclays is making more than $10 million a year with the fund.
- Unlike an Exchange Traded Fund (ETF), VXX’s Exchange Traded Note structure does not require Barclays to specify what they are doing with the cash it receives for creating shares. The note is carried as senior debt on Barclays’ balance sheet but they don’t pay out any interest on this debt. Instead, they promise to redeem shares that the APs return to them based on the value of VXX’s index—an index that’s headed for zero.
- If Barclays wanted to fully hedge their liabilities they could hold VIX futures in the amounts specified by the index, but they almost certainly don’t because there are cheaper ways (e.g., Over the Counter Swaps) to accomplish that hedge. In fact, it seems possible that Barclays might assume some risk and not fully hedge their VXX position. According to ETF.com’s ETF Fund Flows tool, VXX’s net inflows were at least $5.99 billion since its inception in 2009. At least $4.8 billion dollars of that asset value was lost by investors and an equivalent amount by Barclays if they were hedged at 100%. If they were hedged at say 90% they would have cleared a cool $480 million over the last 4 years in addition to their investor fees. Barclay’s affection for VXX might be understandable after all.
- Original VXX Inception 30-January-2009
- VXXB Inception 25-January-2018 Hello VXXB, Goodby VXX
- Original VXX termination 30-January-2019
- Renaming of VXXB to VXX 2-May-2019 Goodby VXXB, We Hardly Knew Ye
- VXX reverse splits: See this post
VXX is a dangerous chimeric creature; it’s structured like a bond, trades like a stock, follows VIX futures, and decays like an option. Handle with care.
Updated Dec 17, 2019
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