FINRA Warned of Risks of VIX-Linked Exchange Traded Products

A recent spike in stock market volatility has brought into focus the enormous risks associated with certain exchange-traded-products (ETPs) linked to the Chicago Board Options Exchange (CBOE) Volatility Index (VIX). However, these products have previously been the subject of several warnings by the Financial Industry Regulatory Authority (FINRA).

Created in 1993, the VIX attempts to track broadly measured volatility in the market.  VIX is an index, not a security, but certain ETPs have attempted to allow investors to track the performance of the VIX index.  One such ETP is Credit Suisse’s VelocityShares Daily Inverse VIX Short-Term ETN (ticker symbol XIV), which the issuer shuttered earlier this month after investors experienced unexpectedly large losses during a spike in the VIX.  Other ETP products that may pose similar risks include Proshares SVXY, VelocityShares ZIV, iPATH XXV, and REX VolMaxx VMIN.

ETPs have previously come under scrutiny by FINRA.   In October of 2017, FINRA ordered Wells Fargo to pay $3.4 million in restitution to investors relating to unsuitable recommendations of volatility-linked ETPs.  FINRA also has published Regulatory Notice 17-32, regarding sales practice obligations, which cautions brokerage firms that many volatility-linked ETPs are highly likely to lose value over time and may be unsuitable to retail investors, particularly those who plan to use them as traditional buy-and-hold investments.  Previously, in 2012, FINRA called for heightened supervision by brokerage firms regarding complex investment products in Regulatory Notice 12-03, specifically warning of the risks posed by investment products tied to the VIX.

Certain ETPs are structured to provide investors with returns that are positive when the VIX falls, and negative when the VIX rises, and investors in these products essentially are taking the view that the market will remain relatively steady.  However, earlier this month stock market volatility and the VIX rose rapidly as the stock market whipsawed erratically.

ETFs that lost value during this market turmoil include the following:

VelocityShares Daily 2X VIX Short-Term ETN (TVIX)

ProShares Short VIX Short-Term Futures (SVXY)

iPath S&P 500 VIX Short-Term Futures ETN (VXX)

VelocityShares Daily Inverse VIX Short-Term ETN (XIV)

ProShares Ultra VIX Short-Term Futures (UVXY)

ProShares VIX Short-Term Futures (VIXY)