Investors seeking to capitalize on market volatility often turn to volatility exchange-traded funds (ETFs) as a way to potentially profit from turbulent market conditions. While these funds can offer significant upside during periods of increased volatility, it’s important to understand that the structure of these funds can lead to erosion in their value over time.
Here are some of the top volatility ETFs and ETNs currently available, with data accurate as of August 2, 2024.
Understanding Volatility ETFs
A volatility ETF provides investors with the opportunity to take a position on market volatility. Unlike traditional ETFs that hold shares of companies, volatility ETFs utilize derivatives such as futures to create a fund that rises in value when market volatility increases. The CBOE Volatility Index (VIX) is often used as a measure of market volatility, with the index spiking during times of increased uncertainty. Investors can use volatility ETFs as a short-term hedge or as a speculative bet on market direction.
Due to their use of derivatives, volatility ETFs are typically designed for short-term holding periods, as the fund’s value may erode over time. Additionally, some volatility funds may be structured as exchange-traded notes (ETNs), which can also track market volatility.
Top Volatility Funds
iPath Series B S&P 500 VIX Short-Term Futures ETN (VXX)
This ETN offers exposure to the S&P 500 VIX Short-Term Futures Index Total Return. As an ETN, investors have no principal protection and hold unsecured debt from the issuer, Barclays Bank.
- YTD return: -18.9%
- 5-year returns (annualized): -50.1%
- Expense ratio: 0.89%
ProShares VIX Short-Term Futures ETF (VIXY)
This ETF tracks the S&P 500 VIX Short-Term Futures Index, which consists of futures contracts with an average of one month until expiration.
- YTD return: -19.5%
- 5-year returns (annualized): -50.4%
- Expense ratio: 0.95%
iPath Series B S&P 500 VIX Mid-Term Futures ETN (VXZ)
This ETN follows the S&P 500 VIX Mid-Term Futures Index Total Return. Investors should be aware that as an ETN, there is no principal protection and they hold unsecured debt from the issuer, Barclays Bank.
- YTD return: -2.5%
- 5-year returns (annualized): -5.0%
- Expense ratio: 0.89%
ProShares VIX Mid-Term Futures ETF (VIXM)
This ETF tracks the S&P 500 VIX Mid-Term Futures Index, which includes futures contracts with an average expiration of five months.
- YTD return: -3.0%
- 5-year returns (annualized): -5.8%
- Expense ratio: 0.94%
ProShares Short VIX Short-Term Futures ETF (SVXY)
This ETF aims to provide daily returns that are half the inverse of the daily performance of the S&P 500 VIX Short-Term Futures Index. In other words, if the index rises by 1%, the fund would seek to decline by 0.5%.
- YTD return: -3.8%
- 5-year returns (annualized): 12.9%
- Expense ratio: 0.95%
Pros and Cons of Volatility ETFs
Advantages of Volatility ETFs
- Easy access to volatility exposure: Volatility ETFs provide a straightforward way for investors to capitalize on market uncertainty.
- Portfolio hedge: These funds can serve as a short-term hedge against market downturns.
- Rapid price spikes: During periods of heightened volatility, some volatility ETFs can experience significant price increases in a short amount of time.
Disadvantages of Volatility ETFs
- Short holding periods: Volatility ETFs are designed for short-term trading, as their value may decay over time.
- Value erosion: Due to their structure, volatility ETFs may experience value decay over time.
- Poor long-term returns: Holding onto volatility ETFs for an extended period may result in diminished returns.
Key Considerations for ETF Investing
When investing in ETFs, it’s important to consider several factors to ensure you are making informed decisions:
- Targeted exposure: Different volatility ETFs offer varying exposures, including timeframes, inverse performance, and leverage.
- Investment track record: Reviewing an ETF’s track record can provide insight into its historical performance, although volatility ETFs are primarily designed for short-term gains.
- Expense ratio: Understanding the fund’s expense ratio is crucial, as it impacts the overall cost of owning the ETF.
Investing in Volatility ETFs
Volatility ETFs can be a valuable tool for profiting from market movements or hedging against short-term risks. Investors should carefully consider their investment goals and risk tolerance when selecting volatility ETFs, as different funds offer varying levels of exposure to market volatility.
Ultimately, the decision to invest in volatility ETFs should align with an investor’s overall investment strategy and objectives. While these funds can offer significant upside during volatile market conditions, it’s essential to be aware of the potential drawbacks, such as value erosion over time.
For investors looking to trade volatility ETFs, it’s advisable to use a reputable brokerage platform that offers access to a wide range of investment products.
Conclusion
Volatility ETFs can be a powerful tool for investors seeking to capitalize on market volatility. However, it’s crucial to understand the unique characteristics and risks associated with these funds. While volatility ETFs can offer substantial returns during periods of market turbulence, investors should be mindful of the potential erosion in value over time.
— This article has been updated with contributions from Bankrate’s Brian Baker.
Editorial Disclaimer: Investors should conduct thorough research into investment strategies before making decisions. Past performance is not indicative of future results.