By John Spence & Tom Lydon
Volatility exchange traded products such as ProShares Ultra VIX Short-Term Futures (UVXY) and iPath S&P 500 VIX Short-Term Futures ETN (VXX) fell Monday as the CBOE Volatility Index dropped below 12 for the first time since 2007.
UVXY was down about 5% in midday trading to fall to a new all-time low. Volatility-linked products have been crushed on a declining VIX and "contango" in futures markets.
The VIX has fallen to a six-year low as U.S. stock indices such as the Dow Jones Industrial Average break out to record highs. March 9 marked the four-year anniversary of the market bottom from the credit crisis.
The VIX's long term average is 20.4, according to ConvergEx Group.
"Traditionally high volatility is associated with growth in stock market return, and this low-vol rally is quite the anomaly," ConvergEx analysts said in a note Monday. "It might be emotionally difficult to buy when fear reigns, but it usually proves profitable. Conversely, putting new money to work when complacency rules - as it does now - is seldom a recipe for success."
The VIX is known as Wall Street's fear gauge and rises when investors are seeking protection from stock-market declines in the S&P 500 options market.
Still, Mark Hulbert in a recent MarketWatch article wrote that the VIX leaves a lot to be desired as a market-timing indicator.
"In contrast to what many contrarians believe, low VIX levels are not bearish. And high levels are not necessarily bullish either," Hulbert said.
VXX is the largest volatility exchange traded products with a market cap of about $1.2 billion. The ETN is down about 77% for the trailing year.
"One strange attribute of the stock market over the past year has been the nearly complete lack of volatility. Although the markets haven't moved straight up, declines have been shallow and short-lived, and despite potential global and domestic catastrophic events, investors have been complacent," writes Dan Caplinger at the Motley Fool.
He points out that losses in volatility products such as VXX have been magnified by the fact they are designed to track futures rather than the spot VIX.
"Expectations of higher future volatility have been continually thwarted, costing investors additional friction from rolling contracts. If fear returns to the market, then [VXX] will rise, but there's no guarantee that it'll get close to quintupling in price - which is what it would need to regain its losses since early 2012," Caplinger added.