Bet on stock market volatility could cost investors hundreds of millions in losses as Barclays makes big change to funds

Market participants trying to bet on stock market volatility face a reckoning on Tuesday, with the possibility of hundreds of millions in losses in sight as fund provider Barclays announced it has suspended sales and issuance of new shares of an instrument indexed to the VIX.

Barclays said it has temporarily halted the creation of new shares of the iPath Series B S&P 500 VIX Short-Term Futures ETN VXX,
-0.38%,
as the exchange-traded note has seen its value rise in recent days amid worries over war in Eastern Europe and concerns over inflation and the potential for monetary policy missteps.

“They just stop creations when they get nervous,” said Eric Balchunas, principal analyst at Bloomberg Intelligence, which focuses on exchange-traded products, including exchange-traded notes, or ETNs, and currency-traded funds. stock market, to MarketWatch in an interview Tuesday afternoon. , referring to Barclays.

The iPath Series B S&P 500 VIX Short-Term Futures ETN is designed to allow investors to bet on the size of fluctuations in the S&P 500 SPX,
+2.14%,
tracking an index linked to the daily readings of Wall Street’s so-called fear gauge, the Cboe Volatility Index VIX,
-6.11%,
or VIX.

ETNs and related ETFs are intended to trade close to the value of an underlying asset. While ETFs hold securities, ETNs hold unsecured debt obligations of an issuer, in this case Barclays, that promises to pay a return tied to a specified asset.

However, the cost of hedging the VIX product has skyrocketed for Barclays as the underlying asset has risen. The issuer said it does not have the capacity to create more ETN shares and will resume creations once it does.

ETN debt essentially creates a liability on banks’ balance sheets, which they then need to hedge to comply with regulatory rules.

The halt in new shares for the time being means that shares of VXX, referring to its ticker symbol, will go out of sync with the underlying asset. It also means that investors who shorted VXX, selling borrowed stock betting that its price would fall, are struggling to find stocks they can buy to close their bearish positions.

“Investors cannot hedge their shorts,” analyst Bl said.

ETF.com describes VXX as a liquid volatility ETP and claims that it is one of the few to offer exposure to short-term VIX futures.

Balchunas estimates that nearly half of VXX’s stock was held short – some estimates say 90% – and that the stock’s surge is partly a function of short bettors being forced to buy VXX back on the open market to unwind their short bets as the price rises. He speculated that today’s surge alone for VXX could result in losses of around $200 million for those making short bets.

“I feel like it’s a bit selfish,” Balchunas said of Barclays’ decision to stop creatives. “You can’t just offer a fund during the good times when it’s easy and then stop creations in the bad times,” he said.

“This suspension is imposed because Barclays does not currently have sufficient issuance capacity to support new sales from inventory and any new issuance of ETNs,” Barclays said in a statement.

“These actions are not the result of the crisis in Ukraine or a problem with market dynamics in the constituents of the underlying index. Barclays plans to reopen sales and issuances of ETNs as soon as it will accommodate additional capacity for future issuances,” the bank said.

This is the second iteration of the iPath VIX product. It originally launched in 2009, but on January 30, VXX was delisted in an unusual event for such a popular product. Barclays launched a virtually identical product which traded soon after, with bond-like call characteristics, underlining the debt nature of the product.

Barclays has also discontinued the creations of ETN iPath Pure Beta Crude Oil,
-5.83%,
which is down 8.4% for the week so far, but up more than 28% year-to-date, moving with CL.1 crude oil futures prices,
-7.60%.

Oil prices and equities have been particularly volatile as investors monitor developments between Ukraine and Russia, with this dispute helping to inject a new dose of volatility into already volatile markets.

The measure of implied equity volatility, the VIX, which tends to move inversely to equities, is up 78% so far in 2022, compared to steep year-to-date losses in the S&P 500, Dow Jones Industrial Average DJIA,
+1.82%
and the Nasdaq COMP composite index,
+2.92%.

The ETN moves come after short-volatility products, including the VelocityShares Daily Inverse VIX Short-Term ETN and ProShares Short VIX Short-Term Futures ETF, imploded in 2018.

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