The Appeal of UVXY – Why traders should use it!

Why traders are drawn to UVXY

ProShares Ultra VIX Short-Term Futures ETF (UVXY) is a powerful tool for traders looking to capitalize on volatility in the market.

Its appeal lies in its ability to amplify gains during turbulent times, offering potential returns that far exceed traditional market movements.

UVXY seeks to provide 1.5 times the daily performance of the S&P 500 VIX Short-Term Futures Index, making it a go-to choice for those anticipating significant market swings.

Potential for rapid gains in volatile markets

The Theory

The allure of ProShares Ultra VIX Short-Term Futures ETF (UVXY) lies in its potential to deliver rapid gains during periods of heightened market volatility. UVXY is designed to amplify returns by 1.5 times the daily performance of the S&P 500 VIX Short-Term Futures Index.

This leverage makes it an attractive option for traders adept at navigating volatile market conditions, as even small fluctuations in the VIX index can lead to substantial movements in UVXY’s price. The theory behind UVXY’s appeal hinges on the inverse relationship between market stability and volatility spikes: as uncertainty and fear grip the market, the VIX index rises, triggering an increase in UVXY’s value.

UVXY’s potential to magnify gains exponentially during periods of economic turmoil or significant geopolitical events allows traders to participate in volatility-driven movements with heightened sensitivity, thereby offering opportunities for swift profits when market conditions align favorably.

Example 2018

In 2018, as trade tensions between the United States and China intensified, global markets experienced significant volatility. This environment was fertile ground for ProShares Ultra VIX Short-Term Futures ETF (UVXY), which aims to amplify returns based on the Cboe Volatility Index (VIX). As the VIX surged in response to escalating geopolitical uncertainties and economic fears, UVXY saw remarkable increases in value.

Example 2020

In 2020, the COVID-19 pandemic emerged as a global crisis, sending ripple effects across financial markets worldwide. As uncertainty and fear gripped investors, market volatility soared to unprecedented levels. During this tumultuous period, UVXY gained more than 800% within 4 weeks.

Hedging strategies using UVXY

Investors also use UVXY as a hedge against downturns in their U.S. equity portfolios. Due to its inverse correlation with the S&P 500, UVXY tends to rise when stocks fall. This characteristic allows traders to offset losses in their traditional holdings, mainly long stocks, providing a form of insurance during bearish market conditions.

1. Hedging against market downturns

UVXY exhibits an inverse relationship with the S&P 500 index. When the stock market faces significant declines, volatility typically rises, causing UVXY to increase in value. This inverse correlation allows traders to offset losses in their traditional equity holdings with gains from UVXY.

By holding UVXY alongside their stock investments, traders can potentially mitigate overall portfolio losses during bearish phases.

2. Portfolio insurance during uncertainty

During times of economic uncertainty, such as geopolitical tensions or global health crises, markets can experience heightened volatility. Traders use UVXY as insurance against unforeseen market swings.

3. Tactical allocation adjustments

Traders actively manage their UVXY positions based on market conditions and their outlook for volatility. When anticipating increased market turbulence, they may increase their exposure to UVXY to capitalize on potential gains.

Conversely, during periods of low volatility and stable market conditions, traders might reduce their UVXY holdings or use options strategies to maintain a balanced portfolio.

4. Diversification of risk

Including UVXY in a diversified investment strategy enhances portfolio resilience by diversifying risk exposure. Traditional asset classes like stocks and bonds may perform differently under varying market conditions. UVXY’s unique characteristics provide an additional layer of diversification, ensuring that overall portfolio risk is spread across different asset types with potentially uncorrelated returns.

5. Short-term tactical plays

UVXY can also serve as a short-term tactical play for traders seeking to capitalize on anticipated volatility spikes. The most common way to trade UVXY is through options.

Options strategies on UVXY

Buying Calls

Buying calls on UVXY is a strategy employed by traders seeking to profit from anticipated increases in market volatility. When purchasing UVXY calls, traders acquire the right, but not the obligation, to buy UVXY shares at a predetermined price (strike price) within a specified period (expiration date). This approach becomes profitable if UVXY’s price rises above the strike price by expiration, allowing traders to capitalize on the leverage provided by options.

Given UVXY’s tendency to surge during market downturns or periods of heightened volatility, buying calls enables traders to potentially amplify their gains during these volatile market conditions.

Selling Out-Of-The-Money Calls

Selling out-of-the-money (OTM) calls on UVXY represents a strategic approach for traders looking to generate income during periods of lower volatility or when anticipating UVXY to remain below a certain price level.

This options strategy involves selling call options with a strike price above the current market price of UVXY. Traders who employ this strategy aim to collect premiums from the sale of these calls, capitalizing on the expectation that UVXY will not reach the strike price by the option’s expiration date.

Buying Deep-In-The-Money Puts

Buying deep-in-the-money puts on UVXY can effectively serve as a stock replacement strategy for traders seeking to profit from the long-term decay of UVXY without having to own physical shares.

By purchasing deep-in-the-money UVXY puts, traders acquire the right to sell UVXY at a specified strike price, typically significantly below the current market price. This approach allows traders to lock in a predetermined selling price for UVXY, similar to owning the ETF itself, while requiring less capital upfront compared to buying actual shares.

Butterflies and/or Broken-Wing Butterflies

Butterfly and Broken-Wing Butterfly strategies with UVXY options offer sophisticated approaches for traders looking to capitalize on specific price movements and volatility expectations. A Butterfly spread involves buying one call (put) option at a lower strike price, selling two calls (puts) at a middle strike price, and buying one call (put) at a higher strike price. This strategy profits from UVXY’s price staying close to the middle strike at expiration, maximizing gains if volatility remains within a certain range. Conversely, a Broken-Wing Butterfly modifies this structure by unbalancing the spread, typically selling more options at one strike price while adjusting the others. This asymmetrical setup allows traders to tailor their risk and reward profiles based on their market outlook and volatility predictions.

These strategies are favored by experienced traders due to their flexibility and potential for high-profit scenarios. By strategically combining multiple options contracts, traders can create nuanced positions that profit from UVXY’s price movements while managing risk through defined maximum losses. Whether anticipating volatility surges or expecting UVXY to remain range-bound, Butterflies and Broken-Wing Butterflies enable traders to implement precise strategies that align with their market analysis and trading objectives, offering a sophisticated alternative to straightforward directional bets.