Who wants to be a vol. trader?!
Why, everyone, of course! Because volatility is an asset class!
(“I’m an asset!”)
Or at least everyone wanted to trade volatility right up until February, when the Seth Golden crowd was summarily wiped out in spectacular fashion by the implosion of short VIXproducts.
February 5 is a day that will live in market infamy and the hilarious thing about that episode (well, it wasn’t “hilarious” if you were sitting in one or more of those products) was that a bevy of ostensibly “smart” people were convinced the rebalance risk inherent in inverse and levered VIX ETPs would never be realized.
Late last year, I gave up on arguing the point, because for whatever reason, the danger inherent in the structure of those products seemed completely lost on a lot folks who really should have known better.
Even if, for whatever reason, they didn’t know better, multiple analysts spent the better part of 2017 pounding the table, on the way to warning that eventually, the chickens would come home to roost. There was Rocky Fishman, for instance, who penned note after note after note last year on the subject for Deutsche Bank (he’s since moved on to Goldman). You can read multiple excerpts from those notes in our “doom loop” archive.
There was also BofAML’s Michael Hartnett, who variously warned that “short vol.” was one of the most crowded trades on the planet. In January, he flagged the risk one final time for anyone who still wasn’t convinced. The bottom fell out just weeks later.
And there was of course Marko Kolanovic, who explained the problem in the simplest possible terms midway through last year:
Given the low starting point of the VIX, these strategies are at risk of catastrophic losses. For some strategies, this would happen if the VIX increases from ~10 to only ~20 (not far from the historical average level for VIX). While historically such an increase never happened, we think that this time may be different and sudden increases of that magnitude are possible. One scenario would be of e.g. VIX increasing from ~10 to ~15, followed by a collapse in liquidity given the market’s knowledge that certain structures need to cover short positions.
