The VIX is not broken says Taylor Lukof of ABR Dynamic Funds. “There was an opportunity for the VIX to break on the 5th of February and here we are two weeks later and the VIX is at 18, down from 50, the markets are back up and the world is fine.
“A lot of people think that the market for VIX products could take down the entire equity market but while it is larger than when it launched, it is still relatively small when compared to the equity market – the tail is not wagging the dog.”
However, Lukof believes that something did break that day and that was the original Volaltility 1.0 products.
“We have been saying that this is a relatively new technology – there has only been real VIX futures trading for the last 10-12 years. Any time you have new technology there are bumps in the road and these products were intended to be for short term trading and speculation.”
The next evolution, Lukof predicts, is Volatility 2.0 which is a better way of using volatility as an asset class in a portfolio.
“Now you enter this argument where some people say volatility is an asset class and some say it isn’t – that’s an academic argument but if you can use something in a portfolio in a persistent way that provides potential returns - that’s an asset class.”
Lukof comments that the Volatility 1.0 way to do this would be to put volatility into a portfolio and watch how it decays daily, with long volatility products down over 70 per cent last year in a low volatility environment.
His approach has been to create a fund, the ABR Dynamic Blend Equity and Volatility Fund (ABRVX), that combines a long equity exposure with a long volatility exposure so that, in a bull market, the investor gets some potential positive returns and in a crisis it not only may not collapse, but also could experience significant positive potential returns.
Their fund started in 2015 and last year achieved 10 per cent in returns. “In the week leading up to the 5th our model saw that volatility had started to creep higher and by late January, our trend-following algorithm recognised that and bought more volatility, enough to give us a 10 per cent return on the day of the fifth.
“Our fund is an absolute return product that dynamically rotates between volatility and equity.”
Lukof reports that his fund is the only fund that returned 10 per cent or more on February 5th 2018 and returned 10 per cent or more in the trailing 12 months before February 5th 2018, with returns of 10.67 per cent on the day of February 5th and 14.28 per cent in the mutual fund for the year from February 2nd 2017.
This strategy has about USD40 million under management, charges a 2 per cent fee, and is available in a UCITS wrapper and as a mutual fund. The firm has about USD50 million under management overall.
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