Shorting VXX with Crash Protection

Does shorting the iPath S&P 500 VIX Short-Term Futures ETN (VXX) with crash protection (attempting to capture the equity volatility risk premium safely) work? To investigate, we apply crash protection rules to three VXX shorting scenarios:

1. Let It Ride – shorting an initial amount of VXX and letting this position ride indefinitely.
2. Fixed Reset – shorting a fixed amount of VXX and continually resetting this fixed position (so the short position does not become very small or very large).
3. Gain/Loss Adjusted – shorting an initial amount of VXX and adjusting the size of the short position according to periodic gains/losses.

We consider two simple monthly crash protection rules based on the assumption that volatility changes are somewhat persistent, as follows:

• Prior Month Positive Rule – short VXX (go to cash) when the prior-month short VXX return is positive (negative).
• Prior Week Positive Rule – short VXX (go to cash) when the prior-week short VXX return is positive (negative).

For tractability, we ignore trading frictions, costs of shorting and return on retained cash from shorting gains. Using monthly closes for the S&P 500 Volatility Index (VIX) and monthly and weekly reverse split-adjusted closing prices for VXX from February 2009 through March 2020, we find that: (more…)