The fallout from the implosion of a vast array of arcane bets against stock-market volatility mounted quickly Tuesday as Credit Suisse Group moved to liquidate one investment product and more than a dozen others were halted after their values sunk toward zero.
For the flood of investors — including novice retail types — who had piled into what has come to be known simply as the short-vol trade, it was a devastating blow after they had successfully squeezed profits out of the eerie calm that had overtaken stock markets in recent years. The end to that tranquility came fast, with the benchmark Cboe Volatility Index soaring as much as threefold in just three days as $3 trillion was wiped from equities amid signs the U.S. economy could be overheating.
Credit Suisse said it
will buy back the VelocityShares Daily Inverse VIX Short-Term ETN, which it issued and is known by its trading symbol XIV. The fund's market value topped $2 billion in late January; it was down 93% as of 4 p.m. Tuesday after being halted for most of the morning. The bank said it's redeeming early because the indicative value on Feb. 5 was equal to or less than 20% of the prior day's closing indicative value.
The ProShares Short VIX Short-Term Futures ETF, a similar short-vol product, opened just before noon after a prolonged halt. It plunged 83%, wiping out more than $1 billion in market value. Another dozen exchange-traded products tied to the VIX triggered limit up-limit down rules that stopped trading as the volatility gauge spiked above 50 only to then tumble to 30 as the S&P 500 capped its best day since November 2016.
Horizons ETFs Management Canada Inc. halted trading and temporarily suspended redemptions of its ETF that bets against VIX futures earlier Tuesday. The fund fell 84% after it resumed trading and redemptions. Nomura Europe Finance meanwhile announced the early redemption of its Next Notes S&P 500 VIX Short-Term Futures Inverse Daily Excess Return Index ETN, which had 32.4 billion yen ($297 million) in assets.
There was plenty of warning about the risks of letting mom-and-pop investors pile into complex trades they didn't understand. BlackRock Inc., the world's biggest ETF provider, has previously criticized complex volatility products and renewed its call on Tuesday for greater regulation of volatility products. Securities regulators had not issued any comments as of noon Tuesday.
Now market participants will try to determine the extent of any lasting impact from a popular trade that turned bad enough to enact enough stress in the market's plumbing that it shook stock markets from New York to Tokyo.
Credit Suisse
says it has not suffered any trading losses related to the exchange-traded note, even though the Swiss lender was the biggest holder with 32% at the end of the third quarter.
But Barclays Plc says the turmoil will spur a wave of deleveraging among volatility-targeting funds that's set to unleash $225 billion of equity sales in the coming days. Some $500 billion of assets are tied to funds that target a given level of volatility — two-thirds of which are traded by algorithms that look poised to divest after Monday's eruption of turbulence, according to the British bank.
While the amount of money tied to bets on the strategy is difficult to determine, the Barclays estimate underscores that betting against volatility has become a popular money-making strategy in the years since the financial crisis, with banks and other financial companies offering a plethora of short-vol products.
Exchange-traded notes and funds that give investors a quick and easy way of entering the trade have also been criticized for their risks. BlackRock Inc. has been calling for regulation that would clearly spell out the dangers associated with such inverse and leveraged exchange-traded products.
