This is the best we could do to try to get an image of a split. It was either these scissors or it was a photo of someone splitting their pants. Because we try to keep is professional, we chose the former of the two.
We have been getting a lot of questions lately about the continuous UVXY reverse split that seems to happen quite a bit. Fortunately (or unfortunately), there are specific reasons why these keep happening over and over again.
For the rest of this article, we will explain why there are UVXY reverse split’s and why they are likely to continue to happen.
What is UVXY?
Alright…so what is UVXY? Well, the medical term is actually the Proshares Ultra VIX Short Term Futures ETF. That’s a mouthful.
This is a way for investors and traders to have exposure to the rise and fall of volatility.
But there was some mention about futures in there? What is that all about?
UVXY is priced from the price of VIX futures. What this means is that the managers of UVXY (yes, people manage it) have to maintain a certain number of futures contracts in order for the stock to have the same tradeable underlying assets that are always the same.
But there is one problem here. VIX futures, like all other futures contracts, have expirations. That means when the contract expires, it does not exist anymore after the contract settles.
So Proshares has to maintain and even balance each day so UVXY can be priced properly. They hold a basket of VIX futures, and as they are approaching their expiration date in order to maintain the same balance of futures, Proshare must sell the futures they are long and buy additional futures that are further away from expiring. Let’s look at any example.
We see /VXH7 which expires in 8 days is trading for $12.55. Remember, Proshares must maintain the same amount of futures contracts at all times in order for UVXY to not be a scam. As /VXH7 gets closer and closer to expiring, Proshares must sell those (for $12.55) and at the same time in order to keep the same number of futures contracts buys contracts further away from expiring. In this case, they will be selling a future for $12.55 and buying one for $13.30. That means UVXY is taking a $0.75 loss to maintain itself. $0.75 in the VIX futures is actually $750, so the way you can think about it is that in this scenario, UVXY must take a $750 loss every time they buy the front month and sell the back month to keep the stock alive. Ugly.
This unfortunate process is known as contango and occurs 80% of the time. That means that 80% of the time, there is a negative drag against UVXY which results in the stock looking something like this
over just the last year! So what does Proshares do the keep this baby alive? A UVXY reverse split!
UVXY Reverse Split to Keep UVXY Alive
The short version is, the UVXY reverse split is necessary in order to make UVXY continue to be tradeable. In doing this, they increase the price of the stock in exchange for reducing the number of shares everyone has.
On January 12, 2017, UVXY completed it’s seventh reverse split since it’s inception as a tradeable product since 2011. Want more cool facts? UVXY became tradable in 2011 for the price of $40. If there were no UVXY reverse splits, it would now be trading for $0.004. Thus, making it completely untradable. Note, UVXY is currently trading for $18.63. Here is the UVXY reverse split history in one chart.
|Split #||Date||Split||Price Before Split|
We can see that this negative drag on UVXY is so nasty that is caused UVXY to have to complete a reverse split about once every year. Ugly.
Now, what happens on the split is the following. Let’s say we were holding 10 shares on January 11.
|Date||Shares||Value||Price Per Share|
You can see the 5:1 share UVXY reverse split reduced our shares to 2 but the value of that shares went up 5x.
What Do We Do Now?
Well for starters, we never get long UVXY. We just do not. Why would we get long something that has a negative drag 80% of the time?
And the unfortunate truth is that this wild happen over and over and over again, about once a year like clockwork? Why? Because the VIX futures will always have contango a majority of the time. Even if it is less than 80% moving forward, it will always come out to be a majority of the time. This means that a majority of the time, there will be a negative drag on UVXY. If volatility does not go up or down, UVXY goes down every time. The concept of the UVXY reverse split will never go away 🙁
However, we do highly recommend trading UVXY from the short side. Since there is no stock to borrow, we recommend trading UVXY options from the short side 🙂