Credit Suisse (CS), which offers a variety of ETF and ETNs, announced December 14, 2012 that it is going to conduct a reverse share split on VelocityShares Daily 2X VIX Short Term ETN (TVIX). The TVIX along with products such as the ProShares Ultra VIX Short Term Futures ETF (UVXY) and the iPath S&P 500 VIX Short Term Futures ETN (VXX) are popular products used to gain exposure to volatility, as measured by the CBOE VIX, which is not directly investable. Recently, the VXX underwent a 1 for 4 reverse split and the UVXY underwent a 1 for 10 reverse split. Now the third one of these products that seeks to offer exposure to VIX futures, the TVIX is facing its adjustment before heading to zero.
No other VIX products, such as UVXY or VXX will be affected by this announced split. The TVIX reverse split will be conducted at a ratio of one new share for every ten held. The reverse split will apply to shareholders of record as of the close of the markets on December 20, 2012 and will begin trading at the adjusted price Friday December 21, 2012. The ticker symbol for the fund will not change. The fund will be issued a new CUSIP number.
The reverse split will increase the price per share of the fund with a proportionate decrease in the number of shares outstanding. In a 1 for 10 reverse split, every ten pre-split shares held by a shareholder will result in the receipt of one post-split share, which will be priced ten times higher than the value pre-split share. (If you hold 100 shares of TVIX priced at $0.85 each, then after the reverse split you will hold 10 shares valued at $8.50 each.) Thus, the reverse split does not change the value of a shareholder's investment. Further, the ticker symbol for the fund will remain the same. The fund will be issued a new CUSIP number, which identifies the product on exchanges.
There are two more considerations to think about during this split. What happens with fractional shares, and what happens to owners of options contracts.
Fractional Shares From Reverse Splits
For those shareholders who hold quantities of shares that are not a whole number with an exact multiple of the reverse split ratio, the reverse split will result in the creation of a fractional share. This will affect any shareholder who does not hold a number of shares that is a multiple of ten. After the reverse split occurs fractional shares will be redeemed for cash and sent to your broker of record on or around January 3, 2013 according to CS. The major issue associated with such a move is that it forces shareholders to realize either gains or losses, which could result in a taxable event for those shareholders, in addition to a having a potential loss on investment if prices are below where they were purchased. Given that volatility is near a five-year low, a loss is quite possible. One way to mitigate this is to purchase more shares to round out your TVIX holdings to a multiple of ten, or to sell an appropriate number of shares to round out the holdings.
For Those Holding Options Contracts On TVIX
For those traders who may be holding options on TVIX, this split will affect your contract, albeit minimally. Once iPath conducts the reverse split, the contract undergoes an adjustment that is commonly known as "being made whole", which means the option contact is modified accordingly so that options holders are neither negatively nor positively affected by the split. While we know the reverse split will adjust the price of the underlying shares of the TVIX option, the option will be adjusted so that the changes in price due to the split do not affect the value of the option.
So if there is positive or negative effect on the option value, just how much will the option be worth post-split? You actually don't need to worry about such things, because the options clearing corporation automatically adjusts the price to maintain the option market. However, for those who want an estimate of what the TVIX option will be worth, the calculation is simple. Each TVIX option contract is (usually) in control of 100 shares of TVIX at some predetermined strike price. To find new the share coverage of the option after the split, all you do is simply take the split ratio and multiply by the old share coverage (normally 100 shares). To find the new strike price, take the old strike price and divide by the split ratio.
Let's look at an example of a call option contract for 100 shares of TVIX at a strike of $1.00. Since the split is 1 for 10 we divide $1.00 by 1/10, generating a new strike price of $10.00. The option will now cover 10 shares because we multiply 100 by 1/10. Thus, your new call option contract (which will expire on the same day as originally scheduled) will be good for a purchase of 10 shares of TVIX for $100.00. On your brokerage account, the contract may be adjusted to read "TVIX1" or similar and still state it is worth 100 shares at the original price, but for redemption purposes, the contract would be redeemed for 10 shares at the post-split price.
TVIX is down 98% in a year, currently trading at $0.80. To save the product, CS is conducting this reverse split. This reverse split will truly only 'hurt' investors who own common shares at a total that is not a multiple of ten, as they will be forced to sell fractional shares at a loss, or a potential gain, that could results in a taxable event. Owners of options contracts will not be affected besides being faced with owning a new contract at a different strike price for a different number of shares. The total value of the contract will, however, remain the same.
Disclaimer: This article is not a recommendation to buy or sell VIX futures through TVIX, UVXY, VXX or any other volatility product. It is for informational purposes only. The options contract analysis can be applied to all splits of other companies in the future by utilizing the outlined calculations.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.