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Market Volatility Returns: Bet on These ETFs

Sweta Killa

After a calm of several weeks, volatility returned with growing fears of a second wave of coronavirus infections and a gloomy economic outlook provided by the Federal Reserve. Some 20 states in the United States that reopened weeks ago have reported strong uptick in case counts or hospitalizations.

Meanwhile, the Federal Reserve, in the FOMC meeting concluded on Jun 10, warned that the U.S. economy will contract 6.5% in 2020 before rebounding 5% next year. It also predicts an unemployment rate of 9.3% by the end of this year. Though this is down from 13.3% in May, it will be substantially above the 3.5% rate recorded in February — a near 50-year low. Inflation was forecast to remain below the Fed’s 2% target through 2022. The central bank also kept rates the current low levels through 2022 and has pledged to continue pumping in stimulus until the economy is back on track (read: Sector ETFs & Stocks to Explode as Fed Remains Dovish).

The volatility level represented by the CBOE Volatility Index (VIX) jumped about 50% to 41.37— its highest level since Apr 21-22. This suggests that market worries have started to set in. This fear gauge tends to outperform when markets are declining or fear-levels pertaining to the future are high.

Investors could benefit from this trend. While they can’t directly buy this index, there are several ETF/ETN options available in the market that can provide some exposure to volatility. These products have proven to be short-time winners in turbulent times. Below we have highlighted short-term volatility products that will steadily move higher as long as trade concerns linger.

Simple Volatility ETFs

iPath Series B S&P 500 VIX Short-Term Futures ETN VXX

This is a popular option providing exposure to volatility that sees truly impressive average volume of about 43 million shares a day. The note has amassed $665.6 million in AUM and charges 89 bps in fees per year. The ETN focuses on the S&P 500 VIX Short-Term Futures Index, which reflects implied volatility in the S&P 500 Index at various points along the volatility forward curve. It provides investors with exposure to a daily rolling long position in the first and second months of VIX futures contracts. The product gained 33.6% on the day (read: Top & Flop ETFs at Half-Way Q2).

ProShares VIX Short-Term Futures ETF VIXY

It seeks to profit from an increase in the expected volatility of the S&P 500 as measured by the prices of VIX futures contracts. The ETF focuses on the S&P 500 VIX Short-Term Futures Index. It has amassed $191.2 million in AUM and charges 85 bps in fees per year. The fund trades in average daily volume of around 5 million shares and was up 33.6% on Jun 11.

VelocityShares Daily Long VIX Short-Term ETN VIIX

This ETN is unpopular and illiquid with AUM of $46.8 million and average daily volume of 66,000 shares. It seeks to deliver the daily performance of the S&P 500 VIX Short-Term Futures Index, charging 89 bps in annual fees. The note jumped 33.9% on the day.

Leveraged Volatility ETFs

Investors seeking huge gains in a very short time frame could consider leveraged volatility ETFs. Currently, there are two options available under this category:

ProShares Ultra VIX Short-Term Futures ETF UVXY

This fund offers exposure to one and one-half times (1.5x) the daily performance of the S&P 500 VIX Short-Term Futures Index. It has accumulated $675.6 million and average daily volume of 17.8 million shares. UVXY charges 95 bps in annual fees and jumped 50.2% on the day.

VelocityShares Daily 2x VIX Short-Term ETN TVIX

This note offers two times exposure to the S&P 500 VIX Short-Term Futures Index. TVIX is popular with average daily volume of around 9 million shares and AUM of about $1 billion. Expense ratio is much higher at 1.65%. TVIX was up 65.8% on Jun 12.

Bottom Line

Investors should note that these products are suitable only for short-term traders. This is because most of the time, the VIX futures market trades in a condition known as contango, a situation wherein the near-term futures are cheaper than the long-term futures contracts. As volatility ETFs and ETNs like VXX must roll from month to month in order to avoid delivery, the situation of contango can eat away returns over long periods (see: all the Volatility ETFs here).

Though volatility products are seeing erratic trading, this seems a good time to add these products to your portfolio as virus fears will threaten the stock market at least in the near term.

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