Volatility of VXTY Futures in an Illiquid Treasury Market

A recurring topic of discussion among market participants is how illiquid the Treasury market has become and what impact this will have on volatility.   In particular, there is concern over a possible repeat of the “flash crash” of October 15, 2014, when a surge of volume in the CME’s 10-year Treasury futures pushed down Treasury yields and added two index points to the TYVIX Index in the course of 15 minutes.

Figure 1. TYVIX on October 15, 2014 731Fig1

From the point of view of traders affected by illiquidity, an even more interesting question is whether VXTY futures would be as sensitive to illiquid episodes as the spot index.  VXTY futures were listed in November 2014, just after the flash crash, but we have a clue to their response in the fair values of VXTY futures derived from Treasury options prices.

Figure 2.  Fair Values of VXTY Futures During the Week of October 15, 2014731Fig2

The fair values of VXTY first and second month futures jumped by 30% and 18%, respectively, on October 15, 2014, the date of Treasuries’ flash crash.

Consensus in Treasury Market Cools Volatility – the Week’s Recap

The latest statement from the Federal Open Market Committee (FOMC), released Wednesday, did not say so explicitly, but market participants reading the tea leaves are coming to a consensus that the first Federal Fund rate hike will be pushed ahead to December 2015. (The Fed policymakers’ next regularly scheduled meeting is September 16-17.) The FOMC also reaffirmed its commitment to maintain “sizable levels” of Treasury securities. Accordingly, and with no fresh news but another plunge in Shanghai stocks, TYVIX, the benchmark for Treasury volatility decreased again this week.  VIX and its foreign exchange counterparts, EUVIX, BPVIX and JYVIX did the same.

Figure 3:  Volatility Update July 31, 2015.

 

731Fig3The Score for the Month of July 2015

Figure 4. The TYVIX Index and VXTY futures lost more than one index point in July 2015.  That’s around 18% of the TYVIX Index’s value.

731Fig4

Written by Catherine Shalen