Equity gyrations trigger big rise in exchange-traded notes

Financial advisers looking for a hedge against volatility in the equity markets have a new array of exchange-traded notes to use. Since January 2009, 14 volatility-related exchange-traded notes have come to market, representing $2.1 billion in assets, according to Morningstar Inc. Unlike exchange-traded funds, exchange-traded notes are not portfolios, but rather are non-subordinated debt securities that are tied to the performance of a market index. Because of their structure, they are able to delve into sectors that exchange-traded funds cannot. Over the past two years, providers have rushed to launch exchange-traded notes linked to the performance of futures of the Chicago Board Options Exchange Volatility Index to offer investors a way to hedge equity exposure. Advisers should proceed with caution before using these vehicles, however. "If you have 5% to 10% of a well-diversified portfolio and you are looking to be more active, these products may provide tactical advantages," said Abraham Bailin, an ETF analyst at Morningstar. "But you are opening a whole new can of worms because there are 1,001 ways to use these vehicles and each one taps into a speculative alternative strategy." The leader in the ETN space is Barclays Capital Inc. which was the first to launch VIX-related exchange-traded products in January 2009. Its first two VIX-related exchange-traded notes, the iPath S&P 500 VIX Short-Term Futures ETN Ticker:(VXX) and the iPath S&P 500 VIX Mid-Term Futures ETN Ticker:(VXZ) today have over $2 billion in assets, according to Morningstar. Newer providers in this space are gaining traction. One recent entrant, VelocityShares LLC, entered the market on Nov. 30 with six VIX-related ETNs and has $170 million in assets. One of its ETNs, the $69.5 million S&P 500 VIX Short-Term Futures Index ETN Ticker:(TVIX), has traded 1 million a share a day twice in the past week. “People are directionally trying to hedge equity market moves,” said Nick Cherney, co-founder and chief investment officer of VelocityShares. “TVIX is the most actively traded ETF to be launched in the last two quarters.”