This strategy is centered around the futures curve and employs the ratio of the VIX (a short-term index reflecting the expected 30-day volatility) and the VIX3M (a medium-term index indicating expected 3-month volatility) as its primary signal. Unlike previous strategies, this approach involves not only shorting VXX but also taking long positions in certain situations.
VIX3M (formerly known as VIXMT – VIX midterm) allows us to assess market expectations over a longer term. If the market is calm – VIX3M is higher than VIX (a longer timeframe potentially includes more risk events). When significant market uncertainty arises, the ratio inverts, and VIX3M becomes cheaper than VIX.
For trading, we use VXX Volatility ETF. When the VIX is lower than VIX3M, we short VXX, thereby profiting from decay. Conversely, in situations where market uncertainty is high (VIX higher than VIX3M), we take a long position in VXX to capitalize on potential spikes in volatility. However, since going long on a decay-prone VXX is risky, we use an asymmetric threshold to enter a long position.
Strategy Rules
Calculate the ratio = VIX/VIX3M. Short VXX on close if ratio < 1, stay out of the market if 1 < ratio < 1.05, long VXX if ratio > 1.05.
Strategy Performance
Test period: 2010 – 15 Dec 2023. Costs (brokerage commissions, slippage and borrow cost) are not included.
| Averaged Strategy | Benchmark: Short VXX | Benchmark: SPY | |
| Full Return | 71 122% | 5 850% | 549% |
| Annualized return | 60% | 34% | 12.95% |
| Max DD | -67% | -92% | -34% |
| Sharpe ratio | 0.73 | 0.42 | 0.70 |
