The History of VIX Contango and Backwardation

This morning (Sunday) I got a request from Eric Thompson at Thompson Capital Management to look into streaks of backwardation in VIX.  There are different ways to measure backwardation.  You will hear pundits say we are in backwardation whenever VIX closes higher than the front month future.  Most market participants like to look to the relationship between the first and second month future since that relationship has a direct impact on the volatility oriented exchange traded products (think VXX).  I personally prefer a full comparison of spot VIX, the first month, and the second month future.

As of Friday VIX has closed higher than the front month future for seven consecutive days.  The front month future has closed higher than the second month for six straight days and my method of comparing VIX to both the futures has been in backwardation for six straight days.

So how do these numbers stack up to history?  The following tables sum things up nicely.

The top five streaks for VIX closing above the front month future appear in the first table.  Back in 2008 (no surprise her) there were sixty eight consecutive trading days where VIX closed higher than the front month VIX future.  The next closest streak was 21 times when occurred around the time of the May 2010 flash crash.

VIX - Mo 1

The second table is the one most people care about due to the impact on VXX.  For those new to all this VXX is actually based on a strategy that holds the front two month VIX futures contracts.  Each day VXX rolls a portion of the portfolio from the front month to the second month.  When we are in contango, which means the front month is lower than the second month, the strategy is selling less expensive contract and paying more for the new contract.  This actions is a drag on the performance of VXX.  However, when the front month future is higher than the second month the performance for VXX benefits.

I love when I run numbers and am surprised by the outcome.  Note the longest streak on this table is seventy six days and it occurred in 2011, not 2008.  That outcome caused a double take on my part.

Mo 1 - Mo 2

The final table shows the streaks for backwardation based on comparing VIX to the two near dated futures contracts.   All these streaks occurred during the great financial crisis or the credit downgrade in August 2011 so not big surprise here.

VIX - Mo 1 - Mo 2

So, regardless of how you measure it, we have been in backwardation for just over a week.  History tells us that if the markets continue to be volatile we could be in this situation for seveal more weeks to come.