An Especially Profitable Reversal

The Option Pit VIX Light Is Red, and Volatility Is Going to Drop.

Hey Traders,

The VIX closed below 20 for the second day in a row on Tuesday, something it hasn’t done in more than a year …

And on the anniversary of it trading 82, no less!

This isn’t a flash in the pan, either. I think the VIX is entering a new phase and it might hang in the 17-20 zone for a while.

That’s why I’m so excited about what the Ultra VIX Short-Term Futures ETF (UVXY) is about to do! (Hint: it could mean huge profits for you.)

Remember, UVXY is 1.5x continuous daily exposure to a VIX future with 30 days to expire. 

Basically, it wants to move 1.5 times the daily Barclays iPath Series B S&P 500 VIX Short-Term Futures ETN (VXX) move.

It gets absolutely crushed when the VIX is in a contango (that’s when the futures price sits higher than the spot price), which it currently is.

So what’s going to happen that has me so excited?

UVXY is about to “reverse split.”

And probably at a rate of 5-for-1.

Let me explain …


A reverse split is essentially a consolidation that reduces the overall number of shares while proportionally increasing their value

For example, say a shareholder or trader has 100 shares of stock XYX. In a reverse split, the share trading price would increase 5x, but the holder would now have just 20 shares.

UVXY has done this about every 15 months or so since the stock listed in 2011. All told, it has reverse split nine times, most recently in 2018.

The prospectus says a reverse split can happen when UVXY goes below 10, but it usually doesn’t happen until it gets below 7 — and we are in that neighborhood.

Take a look at just how much money UVXY has bled since its inception:

You read that high correctly — with all the reverse splits, the split-adjusted price of the first shares in UVXY is over $176 million per share …

The ETF closed on $7.06 on Tuesday

So why am I excited?

Because the VIX is still near 20, which is high in this context!

VIX could easily drop a bunch in the coming months — and that is very bad for UVXY, as I’ll explain below.

Losing Three Ways

When VIX futures are in a contango, UVXY is going to lose in at least one, usually two and sometimes three ways …

1. Contango Drag: Every day, UVXY has 1.5x the “roll yield” of VXX. Roll yield is created by the basket of futures UVXY is holding slowly falling toward the VIX cash index …

In other words, it’s the difference between the futures profit or loss and the change in the underlying asset’s spot price.

As of today (March expiration), UVXY is holding 100% April futures, which have to get to 19.79 by VIX expiration. I say “have to” because the future does, in theory, expire into the VIX cash index. So it has to get there.

Every day, the VIX futures drop will slowly bleed a percentage of the value in UVXY.

2. Daily rebalancing: UVXY is meant to produce the daily return of 1.5x a 30-day VIX future. This means to keep its leverage up, ProShare (the UVXY issuer) has to execute extra trades.  

It also creates a negative trading error over long periods of time …

Leveraging costs money, almost on a daily basis. The cost of leveraging creates tracking error, or the difference between a position and its benchmark.

3. Dropping VIX: UVXY is long 1.5 a VIX future, and when VIX futures drop … so does UVXY.

I think we could see VIX go to 17. What does that mean for UVXY …

Bad things.

Going Down Hard

UVXY is going to lose a touch more than 1.5x the percentage loss of a 30-day VIX future in a declining VIX market (once you figure in roll and tracking error).

So if the April VIX future gets a kick in the teeth, UVXY could see a serious drop.

But what does this have to do with a reverse split?

Remember, I said 1.5x the percentage loss.

If the 30 day VIX future loses 5%, UVXY should lose 7.5%.

On a $7 stock, we are talking about 50 cents.

On a $35 dollar stock, we’re dealing with $2.60.

So if you think the VIX is going to drop … 

You would MUCH rather have a higher-priced UVXY with more dollars involved.

Market makers price in some of the contango risk, though that’s not really what they are trading.

They’re actually trading volatility, which means  they care about movement — and they price UVXY options in terms of the volatility, not in terms of directional risk from contango.

Also, because of the tendencies of hedgers, UVXY PUTS are generally less expensive on a volatility basis than calls.

Notice that implied volatilities go down at lower strikes:

This makes owning puts favorable … the exact thing I want to own as this sucker drops.

My point is, if the VIX is still around 20 when UVXY reverse splits (and share prices go up), then drops to 15, I am going to make a lot more per contract than I would with UVXY hanging out at its current price of $7.

That is why I am so excited for the reverse split …

I think I am going to make myself a lot of money and our Volatility Edge program could hit a couple of massive home runs.

The Option Pit VIX Light Is Red, and Volatility Is Going to Drop.

Your Only Option,

Mark Sebastian

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