The VelocityShares 2x VIX Short-Term ETN (NYSE:TVIX) is going to be investigated by the SEC as recent problems with the ETN have put it and others like it under greater scrutiny. The exchange-traded note is tied to the VIX or volatility index. The recent volatility in the price of the Exchange traded note has brought the regulators down upon Credit Suisse Group AG (NYSE:CS) the ETN issuer who will now face investigation into its dealings.
It is all a little bit complex but essentially the TVIX is a bet on the volatility of the market. It tracks the CBOE Volatility Index known as VIX and aims to deliver a return of double the volatility to its investors. The institutions that issue these normally back them with derivatives on the same index as the exchange traded note. The problem arises with the lack of rigid rules around the way these ETNs are traded. We asked last week what had happened to the index when it failed to follow the indicator it should have been. The problems are not necessarily inherent in ETNs but seems to have more to do with the lack of a hold a trader has on the product. The institutions that issue them can halt trading at any time leading to a widening of the gap between the index and the ETN tracking it. This means the ETN is no longer as described until they are issued again. At this stage the institution, when it announces a reissue as Credit Suisse did last week, can cause a massive drop in the price of the ETN.
The lack of clearer rules that protect more players in the market from the often unstable outcomes in the ETN and ETF market are whats causing the sudden interest of regulators. The SEC will investigate the TVIX in particular and the ETN market in general in the coming weeks and months in order to assess the behavior of traders and decide whether it is above board. The European Commission said earlier this month that it was opening inquiries into whether or not there was conflict of interest in EtNs and ETFs. With US regulators now circling it is only a matter of time before a mandate is given by regulators on the trading of these types of instrument. The market currently has $1.2 trillion in assets so any move there could be expected to have an unsteady effect on the rest of the market.
