Hedge funds, pension funds and retail traders have been hit with billions in losses after a popular wager that stock markets would remain calm backfired when the CBOE VIX index saw its largest ever intra-day jump on Monday, according to a report by Reuters.
The index, which tracks expected volatility in the stock market based on S&P 500 options, closed at its highest level since October 2020 fuelled by US recession fears and a rapid unwinding of positions, which wipied out $6tn of value from global stocks in just three weeks.
The report cites calculations using data from LSEG and Morningstar as showing that investors in the 10 largest short-volatility exchange-traded funds (ETFs) saw $4.1bn in returns evaporate from the highs reached earlier this year
These funds had profited from betting against volatility as long as the VIX, often referred to as Wall Street’s “fear gauge,” remained low. However, the sudden spike in volatility caught many investors off guard, leading to significant losses.
The short-volatility trade became so popular that banks, attempting to hedge the new business they were receiving, may have inadvertently contributed to market calm before the strategy unraveled on 5 August, according to investors and analysts.
While retail investors poured billions into these trades, they also attracted attention from hedge funds and pension funds. In March, JPMorgan estimated that assets managed in publicly traded short-volatility ETFs totalled around $100bn.
Although the VIX had settled to around 23 points by Wednesday, well below Monday’s peak of over 65, it remained elevated compared to the previous week.
Hedge fund research firm PivotalPath, which tracks 25 funds trading volatility and manages about $21.5 billion in assets, reported that while most hedge funds tended to bet on a rise in the VIX, some were short. On 5 August, those short positions lost 10%, while the overall group—including both short- and long-volatility funds—posted returns between 5.5% and 6.5%.
