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© 2017 Principalium Capital AG – All Rights Reserved Not for Distribution
The Evolving Dynamics of VIX Futures: Practical Implementation
© 2017 Principalium Capital AG – All Rights Reserved Not for Distribution
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© 2017 Principalium Capital AG – All Rights Reserved Not for Distribution
1. Overview of the Dynamics of the Term Structure Curve and VIX Futures Market
2. Practical Implementation
3. Changing Market Environment and the Impact on Alpha Generating Strategies
4. Trading Examples: Positioning in Different Regimes
5. Conclusion
TOPICS OF DISCUSSION
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Overview of the Dynamics of the Term Structure Curve and VIX Futures Market
© 2017 Principalium Capital AG – All Rights Reserved Not for Distribution
TERM STRUCTURELong-term average (19. October 2011)
Source: CBOE/Principalium
19
19.5
20
20.5
21
21.5
22
22.5
23
0 30 60 90 120 150
TS Average
Delta: 4.9%
Delta: 7.8%
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Overview of the Term Structure CurveContango and Backwardation
Source: Easy Volatility Investing, T. Cooper /Principalium
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TERM STRUCTURERoll Yield and Volatility Risk Premium (VRP)
Source: CBOE/Principalium
CONTANGO: Percentage difference between second month and first month VIX future. This
measure looks at the shape of the VIX futures relative to each other to gauge what the drag/yield
might be from the futures “rolling down” the curve each day.
ROLL-YIELD: Spread between VIX futures and spot VIX. This measure looks at the shape of the
VIX futures relative to spot VIX to gauge what the drag/yield might be from the futures “pulling to
spot” each day.
VOLATILITY RISK PREMIUM: Spread between spot VIX and short-term realized volatility. This
measure compares expected volatility (spot VIX) to realized volatility, and serves as a gauge of
momentum.
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Volatility Risk Premium (VRP)
Source: CBOE/Principalium
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VIX FuturesBasic contract characteristics
Source: CBOE/Principalium
Basic Contract Characteristics
Ticker Symbol VX
Contract Multiplier $1,000
Minimum Tick Value $0.05
Settlement Value VRO- Special Opening Quotation
that uses a VIX-style calculation.
Weekly Contract Available? Yes- but not very liquid
Pricing Method Supply & Demand
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Premium of 1st Future versus VIXVIX (blue) vs 1st future contract a month ago (red)
Source: CBOE/Principalium
0
10
20
30
40
50
60
70
80
90
2006-11-20 2007-10-15 2008-09-05 2009-07-29 2010-06-21 2011-05-11 2012-04-02 2013-02-26 2014-01-16 2014-12-08 2015-10-29 2016-09-21 2017-08-14
VIX Index VIX 1.fut 22d-bw
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Premium of 1st Future versus VIXPremium mostly mean reverting and positive over time
Source: CBOE/Principalium
-1.2
-1
-0.8
-0.6
-0.4
-0.2
0
0.2
0.4
0.6
0.8
LOG(1.vix fut bw) - LOG(vix) 50-d average
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OVERVIEW OF EQUITY MARKET VOLATILITYCharacteristics of equity market volatility – mean reverting
Source: Principalium & Bloomberg
0.00%
10.00%
20.00%
30.00%
40.00%
50.00%
60.00%
70.00%
80.00%
90.00%
100.00%1950
-02-0
1
1951
-11-2
1
1953
-09-0
8
1955
-06-2
3
1957
-04-0
8
1959
-01-2
1
1960
-10-3
1
1962
-08-1
6
1964
-06-0
2
1966
-03-1
5
1967
-12-2
7
1969
-11-1
9
1971
-08-3
1
1973
-06-1
4
1975
-03-2
6
1977
-01-0
5
1978
-10-1
7
1980
-07-2
9
1982
-05-1
1
1984
-02-1
7
1985
-11-2
9
1987
-09-1
1
1989
-06-2
2
1991
-04-0
4
1993
-01-1
3
1994
-10-2
4
1996
-08-0
5
1998
-05-1
8
2000
-02-2
9
2001
-12-1
4
2003
-09-3
0
2005
-07-1
4
2007
-04-3
0
2009
-02-1
0
2010
-11-2
2
2012
-09-0
5
2014
-06-2
3
2016
-04-0
6
21-day rolling vol average vol
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Characteristics of equity market volatility - Negative correlation to equity markets
Source: Principalium & Bloomberg
S&P 500 and VIX Index Values One-Year Correlation of S&P 500 and VIXS&P 500 and VIX Index Values One-Year Correlation of S&P 500 and VIX
OVERVIEW OF EQUITY MARKET VOLATILITY
500
1000
1500
2000
2500
0
10
20
30
40
50
60
70
80
90
VIX Index S&P Fututres
-0.92
-0.87
-0.82
-0.77
-0.72
-0.67
-0.62
-0.57
-0.52
-0.47
1-year rolling correlation
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ETNs:• VXX = an iPath ETN from Barclays
• XIV = VelocityShares ETN from Credit Suisse
ETFs:• VIXY = ProShares ETF that moves like the VXX
• SVXY = ProShares ETF that moves like the XIV
Strategies:• Long Volatility Strategies (Tail risk)
• Short Volatility Strategies
• Multi-Asset Volatility Strategies
• Directional Volatility Strategies
• Long/short Volatility Strategies
• Arbitrage Volatility Strategies (capturing Volatility Risk Premium)
• Combinations of above Strategies and Products
Volatility Products and StrategiesOverview
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Practical Implementation
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PRINCIPALIUM VOLATILITY STRATEGYProprietary approach
Position
Position
Position
Position
Position
Position
Position
Position
Spot<X
Spot>X
X<Y
X<Y
X>Y
X>Y
Slope
Slope
Slope
Slope
Slope
Slope
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Changing Market Environment and the Impact on Alpha Generating Strategies
© 2017 Principalium Capital AG – All Rights Reserved Not for Distribution
TERM STRUCTUREIs this time different ? Long-term average (19. October 2011) vs 2017 environment
Source: CBOE/Principalium
10
12
14
16
18
20
22
24
0 30 60 90 120 150
TS Average TS Average 2017
Delta: 4.9%
Delta: 7.8%
Delta: 22.2%
Delta: 12.7%
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SPIKES AND VOLATILITY EVENTSFastest volatility mean reversion ever
Source: Bloomberg, Principalium
0
100
200
300
400
500
600
700
800
900
1000
Days mean reversion
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MARKET FLOWS% Share of Long Open Interest and % Share of Short Open Interest
Source: CTFC, Principalium
Time evolution of Long Position Open Interest Pct market share Time evolution of Short Position Open Interest Pct market share
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The risks are the usual market risks (such as liquidity) plus the following volatility-specific
risks:
• Volatility drag
• Timing synchronization risk
• VRP-roll yield convergence risk
• Regime change risk, and
• Steamroller risk
RISKSVolatility Specific Risks
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Trading Examples: Positioning in Different Regimes
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Conclusion
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• Low volatility regime: VIX trading is much more “technical”
• React rather than Predict
• Always try to have the risk-premiums in your favor
• Willingness to sit through drawdowns (dynamic scaling)
• Low human intervention
Conclusion
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Alex Orus ao@principalium.com +41 79 404 6777
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CH - 8834 Schindellegi
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