Since the beginning of July, shares of the VelocityShares Daily 2x VIX Short-term ETN (TVIX) have been on a breathtaking run, with shares nearly quadrupling from a low of 16 to the current 56 price. While all the highly leveraged bear ETFs have made impressive moves upward since the start of the recent market gyrations, TVIX has stood out for its particularly impressive move.
Even the financials sector 3x bear (FAZ) has been left in the dust by TVIX. Given the massive selling in Bank of America (BAC) and other financials, you would think that a financials triple-short ETF would be just about the best bearish speculation you could find. However, as the chart shows, volatility ETFs have done much better than standard bearish ultra ETFs in providing upside during bearish market moves.
But as many writers have pointed out, ultrashort ETFs are extremely dangerous as anything other than day-trading vehicles. While the math is a bit too complex to reproduce here, it is a proven fact that holding a leveraged ETF for the long run is typically a terrible idea. These ETF products were created for traders, not investors. (For a detailed explanation of why these leveraged ETFs are terrible buy-and-hold vehicles, I refer you to this great article.)
Getting back to TVIX: Will it fall prey to the same slippage that destroyed so many of these bear ETFs during the 2009-11 bull market? (For example, BGZ (split-adjusted) has fallen from a peak of 657 to 43, FAZ from 10,093 to 61, and TZA from 2348 to 47). Anyone holding a bearish leveraged ETF as the market recovered in 2009 saw their holding get completely obliterated. Will the same thing happen with TVIX?
Regrettably, in the long-run, the answer is yes. When iPath S&P 500 VIX Short-term ETF (VXX), the vanilla, unleveraged version of TVIX, launched in 2009, SA Contributor Don Fishback explained in great detail why a volatility ETF would lead to trouble. All the caveats he had for VXX apply doubly to TVIX. Simply, these funds are destined to underperform their benchmark. That benchmark, the VIX, is a sort-of fear gague for the S&P 500, as it measures the prices -- and thus implied volatility -- of puts and calls on the S&P 500.
Since TVIX has to roll over the volatility options that it owns on a regular basis to keep constant exposure to VIX, it, like any other ETF that has to roll over futures contracts, is subject to getting consistently bad deals when it rolls over, particularly if there is a spread between the price of a product now (the front-month contract) and the price later. The well-known oil ETF, the United States Oil Fund LP (USO), has been a victim of this spread and its shares have far underperformed the benchmark price of crude oil over the past few years. TVIX is subject to similar long-term underpeformance, and its share performance, up until recently, has reflected this expected long-term slippage.
But this has reversed since the beginning of July. TVIX has outperformed its benchmark, the VIX index, by a wide margin. TVIX has been able to benefit from the typical curve for volatility reversing; due to market jitters, volatility is worth more now than in the future. Given this unusual inversion, TVIX has been rising farther than VIX on up days, and falling less than VIX on down days (once one accounts for the 2x leverage factor.) The result of this is that even though the benchmark VIX index made a peak of 48 on August 8 and has failed to return to that level since, TVIX was able to surpass its August 8th peak and keep rising despite VIX never reaching its old high.
I've reproduced a chart showing VIX and TVIX head-to-head. You'll notice that while VIX topped out August 8th and failed to make a subsequent higher high, TVIX surpassed the old August 8th peak by nearly $20 per share. Quite a stunning amount of outperformance!
If you believe, as I do, that we are just entering a new bear market, then TVIX is an interesting speculation here. Since TVIX should continue to outperform VIX as long as panic remains palpable, and since VIX can go much higher than its current level of 35 (It has spiked as high as 96 previously), TVIX seems like an interesting leveraged way to make a bearish bet on the market.
TVIX should not be held as an even medium-term investment however. As soon as you believe a bullish move is coming, you should exit TVIX, as its brief window of outperforming VIX due to an inversion of the volatility curve could end, leading to a massive decline in TVIX shares. And obviously, as with any leveraged ETF product, do not speculate with more money than you are prepared to lose. All that said, if you think, like I do, that the S&P 500 will be trading around 1,000 later this fall, then TVIX is an enticing way to profit from that move.