Schaeffer's Market Mashup: Mini VIX Futures with Michael Izhaky

Crash course on Mini VIX Futures by Cboe Global Markets

Managing Editor
Oct 1, 2020 at 12:00 AM
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Schaeffer's Market Mashup is back with another esteemed guest from Cboe Global Markets who joins our host, Patrick Martin. Michael Izhaky, Vice President of Derivatives Strategy stops by to explain just what Mini VIX futures are. Patrick and Michael talk about the utility of Mini VIX futures, the environments they could thrive in, and the growing preference for "mini" contracts


Transcript of Schaeffer's Market Mashup Podcast: October 1, 2020

Patrick: Ladies and gentlemen, welcome back to the Schaeffer's Market Mashup podcast. I took a week off. I think I'm excused. It was my birthday. But we're back with a vengeance now. I have Michael Izhaky of Cboe Global Markets. He's the Vice President of Derivatives and Strategy. We have a great talk about VIX Mini Futures. I hope you enjoy it.

Welcome, Michael. Glad to have you on.

MICHEAL IZHAKY: Thank you very much. I appreciate that. And happy belated birthday.

Patrick: Thank you. 31, not very fun. Walk me through your career at Cboe and in your role in the investing world and give me kind of a snapshot of what you've been through.

MICHEAL IZHAKY: Sure. So I started out in the industry as an office straighter at O'Connor and Associates. And I spent several years as a bank trader and a portfolio manager. I mostly focused on [01:08inaudible]. I did that for just short of a decade. And then when I moved over to the buy-side, I started a derivative squishing analytics firm called FT Options. And in the beginning of February 2020 Cboe acquired the business of FT Options, the intention to further build out our information solutions. So my work within Cboe commanded focuses on capital efficiency and product strategy. I'm very happy to be with you today. 

Patrick: Interesting. So product strategy. Yeah, I like that. I think that's going to give some interesting insight that I haven't had before with people on. So we've talked at length about Cboe's VIX as well as futures contracts on our previous episodes. I've heard there's this new kid on the block. I actually read the PR Newswire from, I think in August, on Mini VIX futures. I'm gonna put the Dr. Evil quotations on the Mini VIX futures. Walk me through the creation of this mini contract and its purposes.

MICHEAL IZHAKY: Sure. So, Cboe futures exchange actually had launched Mini VIX futures back in 2009, but at that point we were ahead of our time. So market participants back then wanted pre-packaged products. So exchange-traded products of ETPs, that track the performance of VIX Futures, had generally been the vehicle where smaller market participants would trade volatility. However, these ETPs are limiting because they're constructed as a pre-packaged strategy that provides longer exposure to volatility through a combination of holding third month futures and second month futures. 

And since that time, volatility trading has evolved and volatility as a tradable asset class as matured. So strategies are smaller, market participants have developed to now include, seeking direct access to VIX futures without solely looking to ETPs that track the performance of its features. With Mini VIX futures, market participants are able to construct their own views on volatility and to target their own strategies, their on volatility strategies. The current market environment is conducive to reintroducing mini VIX future given the recent interest and expansion in mini and micro products. Similarly, we've heard market participants have a lot of demand for [03:27inaudible] VIX futures contracts. So it was responsive to demands from the market participants as well. 

Patrick: Okay. So I'm working my way through it right now. The difference between the standard and the mini contract, does it really come down to cost of entry and lower overhead?

MICHEAL IZHAKY: It does. I would say a few things. First of all, as it may apply, Mini VIX futures are a scaled down version of a standard VIX futures. And they have the same contract terms with the exception of the notional value. So the notional value for mini VIX futures is a one 10th of the contract size for VIX future. The way that this is accomplished is by having a $100 multiplier for mini VIX features, whereas the standard VIX futures have a $1,000 content multiplier. So that means the Mini VIX futures require less capital to achieve exposure to the VIX index. So I agree with you. Also one difference is that we're currently only listing four near-term serial months for mini VIX futures and no recruits. And the smaller notional value of the mini contract is designed to provide greater flexibility and precision, with volatility risk management as well. So in addition to having a lower notional and lower dollar costs, it also allows those that need additional precision and how they allocate their precisions to accomplish that with the smaller contract size.

Patrick: So yeah, there's a greater degree of customization with these.

MICHEAL IZHAKY: That's right. So if your objective is to have a specific amount of exposure, then instead of having to round to accommodate the standard VIX futures, you could trade a more precise amount of mini VIX futures.

Patrick: Got it, got it. So as far as who this is tailored for, why would someone use a mini VIX future or how could they use the mini VIX futures?

MICHEAL IZHAKY: That's a great question. So I would say that, I'll answer in terms of different strategies and then who might use them. So for example, there's Hedging, which would likely be a strategy for partnering trainers, CTAs or FCMs. There's a short ball and truck structural trading, which is likely a strategy for again, prop CPAs and professional VIX trainers. There's directional or event trading, which really would apply it to all user groups. And then there's also some diversification. So it's a new asset class for CTAs to help them diversify their overall portfolio strategies. Additionally the volatility in the early 2020, along with heightened uncertainty around COVID and now we have the US presidential election and potential for COVID treatments and vaccines have all increased the interest in harnessing credible volatility products to manage the risk. 

For example, speaking of the presidential election, you know, in 2020, we've seen the largest election bump in a US election year among the last four cycles. So if we look at the earliest September, my bank values for the VIX index and VIX futures, for the prior three election cycles and including this one, we see this bump where the October VIX future contract is significant with elevating in 2020 [07:15inaudible].

October VIX futures, which can be used to hedge events, a rise in Volatility in early November, generally have been priced much higher than the VIX index and VIX futures expxired in nearby months. So the Trumps structure of the VIX futures is a big thing that people focus on. And if we're looking at the spread between September and October VIX futures or October to November that's where people see those relationships, those are the types of things that people look at and try to imply for the term structure. Also VIX future demonstrates, they have a performance that is inversly correlated with the stock market, US stock market. So it's got a diversification element as well when entered to portfolio, and this can insulate capital from the risks associated with large unexpected market.

Patrick: Yeah. Agreed. And I think you alluded to it, as far as any other examples of this potential utility being elongated. When you look at the fact that there's a chance that the election may not be decided on election night and then you have the vaccine coming up and then inauguration for whoever wins in November. I feel like this is a tailor made tool for market participants who want to take advantage of this. Are there any other examples in recent history where these mini VIX futures have been important to the market environment?

MICHEAL IZHAKY: So one of the nice things about the mini VIX futures is that there's been a lot of history and they're part of the overall VIX futures complex. So if one could imagine the extreme moves in the beginning of March to late March when we had you know, very, very exaggerated market movements. One could imagine the volatility tools at that point been useful. You know, again, the fact that the VIX and VIX futures have a negative correlation to the market. It really does provide an opportunity to position for various moves in the marketplace. Another thing is also if folks have a view on the market's going to move, not exactly sure directionally, but it's going to move. That's where VIX Futures will come into play, where one can position for movement without necessarily knowing the right direction. So you've got a big event coming up, such as a presidential election, and one could say you know, not exactly sure how it's going to go, but the market is not going to be here and directionally if one does have a directional view, you can also augment it with a volatility component as well.

Patrick: Yeah, that's fascinating, when you hone in on the difference between movement and direction. Backing up for a second. Talk to me about the hype surrounding many derivative contracts in general, in the broader marketplace. It seems like there's this sudden boom for these micro products being launched. Do you have any reason why, can you point to something in particular?

MICHEAL IZHAKY: I mean, it's definitely been a lot of interest in mini and micro contracts for derivatives. Certainly the fact that other products have launched, as prompted us feeling like this is the right time that we introduce the mini VIX future. I think there's also a component of new participants in the marketplace, having the smaller notional combined with new participants in the marketplace is a good combination. So the mini VIX futures is first of all, they build on the success and popularity of the standard VIX futures contract, but also it meets the customer's demand for additional tools to gain direct exposure to the VIX index. I should say potentially the newer participants that maybe are trading with smaller notional amounts. And also mini VIX futures are available for a diverse base of market participants CTA SCMs, cracker trading firms, sophisticated market participants that may be institutional.

Another example of that, that I wanted to bring up is the fact that VIX futures term structure is typically contango. So that provides opportunities to potentially generate through roll-down strategies, for example. So there are people that have consistent strategies with VIX features that are now available to those that are trading mini VIX future size notional. Of course we highly recommend that all market participants, especially those that don't understand the derivatives market and have never used this product before, should be informed as much as possible about how mini VIX futures work before they print the file. But that contango and roll down is certainly one of the common use cases.

Patrick: It's been talked about a lot, the rise of the Robin hood trader with no sports and no sports betting. A lot of people at home are looking for something to do and they're getting into investing. I continue to think that that won't go away once the pandemic is over and there is a return to normalcy. I think this has peaked enough interest in investing, in the stock market, in basically finance in general, that I think people are going to be looking to take that next step out of, you know, individual stocks and into something like volatility, where you can play, like you said, movements in directions. Do you see this, the rise of the mini contracts increasing over time? Basically do you anticipate that moving higher?

MICHEAL IZHAKY: So forward looking projections. However, what I would say is that I agree with you that it seems to be more that a short-lived phenomenon. It seems like people are getting experienced to trading and you know, finding that they're finding useful activity and it's not something which is just taking the place of sports. Now we certainly have seen a lot of positive feedback from the customers and participants that we've engaged with, as far as volumes are concerned, but we see demand showing up in the trading volume. So within the first two weeks of launch, many events daily volumes have passed the hundred thousand contract mark for the first time on August 27th. And today the total volume is well over a million contracts with average daily volume of approximately 33000 contracts.

I think your point about looking for additional products beyond, well beyond signaling equities is certainly coming into play. And also if you start looking at the old lull markets such as the SUV, then it starts to become, you know, going back to my earlier point, sometimes you feel like things are going to be busy. It's going to move, you're just not clear on the direction, or you also feel like internet, for example, it might really someone usual, a volume model or activity, and you just want a position for it. So that's where the mini VIX futures can be a useful tool because the term structure is something which is being set up, the price is lined up such that the events are being priced in. So that's where one can express a view in that term structure or hat is being priced in for an event. The jury can give that as well. 

So if you look at the spread between different expirations, you can say, okay, well, what does it look like from the election's perspective? Is it being priced in to have the volatility decrease in November or December or January? So in a typical presidential election cycle, that duration is much shorter. 

Patrick: Yeah I think it's brilliant how this has been devised to take advantage of that. To wrap up first things first. Have you seen the Wolf of Wall Street?

MICHEAL IZHAKY: Are you talking about the mechana AC?

Patrick: No. I mean, we can talk about that later, maybe if you want. So they sell me this pen scene, always stuck with me, both in the middle of the movie and, and at the end, so to wrap up, have you give me a Sears tower, elevator pitch one last stance, sell me this pen for the mini VIX futures?

MICHEAL IZHAKY: Sure. So, first thing is that we're going to be providing future guides and webinars about mini VIX futures in the coming months. So additional beyond, but I can get through on a Sears tower elevator, which by the way, has three banks to it. The mini VIX futures, one of the great points of it, is that they are part of the product complex of the standard VIX futures. So there's a lot robust ecosystem there. The pricing is going to be complimented by the fact that it's linked to that standard VIX futures contract. It's just one tenth of the size. So what you get is access to more precision and a smaller notional value volatility contract that allows new participants that want to, or need to trade in smaller notional values to access a tried and true VIX futures product, which is been around for quite some time and has a very robust ecosystem.

Patrick: I'm sold. And yeah I probably made it what halfway up the Sears tower.

MICHEAL IZHAKY: Yeah, we're on one of the intermediate banks.

Patrick: Well, we can spend the rest of the time talking about the three Chicago bears maybe.

MICHEAL IZHAKY: I'm a Yankees fan. So we won our first game yesterday.

Patrick: We're gonna cut right now, born and raised I'm sitting in Connecticut right now. Diehard Sox, Celtics fan, you name it. That's great. Goodbye. Good night. But really Michael Izhaky thank you so much for coming on. Maybe one day, you know, when all this is over, we can reconnect and kind of talk about all the stuff that had just happened, but couldn't thank you enough for coming on and I'll talk to you soon. 

MICHEAL IZHAKY: Thanks very much for having me. 

Patrick: Thanks. Take care.


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