How Can I Trade the VIX and What Products Are Available?

The VIX, or Cboe Volatility Index, measures expected stock market volatility, reflecting the S&P 500’s anticipated fluctuations over 30 days. While a barometer of market sentiment, the VIX is an index and cannot be directly bought or sold. This article explains financial instruments allowing VIX exposure and how to trade them, important for incorporating volatility into investment strategies.

Understanding VIX-Linked Trading Products

Gaining VIX exposure involves trading financial products derived from VIX futures contracts, not the spot VIX index directly. VIX-linked products track the implied volatility of S&P 500 options, not the VIX index itself.

VIX Futures Contracts

VIX futures contracts are agreements to buy or sell the VIX index at a predetermined future price, trading on exchanges like the Cboe Futures Exchange (CFE). Their prices are influenced by the current VIX index level and time until expiration. A VIX futures contract has a notional value of $1,000 multiplied by the index value, meaning a one-point move translates to a $1,000 change per contract. These contracts allow participants to take a view on future VIX values, serving as an underlying asset for other VIX-linked investment vehicles. VIX futures have monthly and weekly expiration dates, with final settlement determined by a Special Opening Quotation (SOQ) of the VIX Index on expiration morning.

VIX Options Contracts

VIX options contracts provide the right, but not the obligation, to buy or sell VIX futures at a specific strike price before expiration. Call options grant the right to buy, while put options grant the right to sell. These options are based on VIX futures, not the spot VIX index, and are cash-settled, meaning no physical asset changes hands upon exercise. They are European-style, exercisable only at expiration. Their value is influenced by the market’s expectation of future volatility. The contract multiplier for VIX options is 100, so a $1 move means a $100 gain or loss per contract.

VIX Exchange Traded Products (ETPs) – ETFs and ETNs

VIX Exchange Traded Products (ETPs), including ETFs and ETNs, are publicly traded instruments providing VIX exposure. These products hold portfolios of VIX futures, often short-term indices, aiming to track their performance, not the spot VIX. ETFs are investment funds holding assets like VIX futures, while ETNs are unsecured debt notes from financial institutions, carrying their credit risk. Both ETP types offer volatility participation without direct futures or options trading, though their performance can differ from the VIX index.

Executing VIX-Related Trades

Engaging with VIX-linked products requires a series of practical steps. This process involves establishing a brokerage framework, setting up an account, and understanding the various order types available for trading.

Opening a Brokerage Account

To trade VIX-linked products, an investor must open a brokerage account via an online application providing personal and financial details. Many firms offer various account types, including individual, joint, and retirement accounts. For futures and options, additional approvals and higher margin requirements may be necessary. Brokerage firms evaluate trading experience and financial standing before granting permission, ensuring investors understand derivative product characteristics.

Funding the Account

After opening a brokerage account, funds must be deposited to enable trading. Common methods include electronic transfers like ACH or wire transfers; ACH takes a few business days, while wires often process same-day. Minimum funding varies by broker and product, with some platforms requiring $500 for micro futures or $2,000 for standard contracts. Ensuring sufficient funds is important before placing trades.

Placing an Order

Once funded and approved, investors place trades via the brokerage platform by selecting the VIX future, option, or ETP symbol. They then choose an order type: a market order for immediate execution at the current best price, or a limit order for a specified price or better. Stop orders (stop-market or stop-limit) trigger a trade at a certain price, useful for managing losses or protecting gains. Finally, investors specify quantity and order duration, such as a day order or good-till-cancelled (GTC).

Understanding VIX Product Dynamics

VIX-linked products have inherent characteristics influencing their performance over time, distinct from direct stock investments. Understanding these dynamics is important for how these instruments behave in various market conditions.

Futures Curve and Roll Yield

The VIX futures curve shows how prices differ by expiration, exhibiting contango or backwardation. Contango, the more common state, occurs when longer-dated futures are more expensive, indicating expected volatility increase. Backwardation is when near-term futures are more expensive, often signaling immediate market stress or a sharp volatility spike. VIX ETPs, holding near-month and second-month futures, constantly “roll” positions to maintain continuous exposure. In contango, this rolling can lead to a “roll yield” effect, eroding long VIX ETP value as cheaper expiring contracts are sold and more expensive longer-dated ones are bought; this effect impacts long-term performance.

Time Decay of Options

VIX options, like all options, are subject to time decay (theta), meaning their extrinsic value erodes as they approach expiration, assuming other factors remain constant. Decay accelerates as expiration nears. For VIX options, time decay is influenced by their European-style exercise, allowing exercise only at expiration. As time decreases, less opportunity exists for favorable VIX futures price movement, reducing the option’s value. This makes short-term VIX options susceptible to rapid value loss.

Volatility and Leverage

VIX-linked products are volatile and sensitive to market sentiment and the S&P 500 index; their derivative nature means small movements in the spot VIX or its futures curve can result in magnified price swings. This sensitivity arises because the VIX measures implied volatility, and tracking products reflect these fluctuations. Some VIX ETPs incorporate leverage, further amplifying price movements. This means they offer potential gains during heightened market uncertainty but also carry potential for rapid losses. Their design tracks volatility, which is prone to sudden, large shifts.