February 24, 2018 / 3:20 AM / a year ago

U.S. volatility fund sponsor tweaks strategy after market plunge

NEW YORK, Feb 23 (Reuters) - A company behind U.S.-based funds tied to Wall Street's "fear gauge" is making changes to its investment strategy after a sudden market plunge this month routed traders betting on the complex instrument.

Investors' once-profitable wagers on low or stable market volatility met a catastrophic end on Feb. 5 as products indirectly linked to that fear gauge, the CBOE Volatility Index , caved after the U.S. stock market closed in an incident now being probed by securities regulators.

Two exchange-traded products that effectively bet on low volatility shut after shedding most of their value earlier this month, including the Credit Suisse Group AG-issued VelocityShares Daily Inverse VIX Short-Term Exchange-Traded Note , but others stayed on the market and attracted new demand from investors despite major losses of their own.

REX Shares LLC, which sponsors two volatility-linked products, on Friday announced adjusting those funds so they invest in a different set of underlying instruments than they had before.

In a statement, the company, founded and run by Credit Suisse and VelocityShares veteran Greg King, suggested the changes to the REX VolMAXX Long VIX Weekly Futures Strategy ETF and REX VolMAXX Short VIX Weekly Futures Strategy ETF would make the products less volatile.

The tweaks are technical. The funds' manager will now invest primarily in futures contracts linked to VIX with two to six months to expire, according to the statement, up from less than one month. The funds will likely also "reduce their exposure" to volatility-linked products managed by other companies, the statement said. The changes are due to take effect by April 25.

REX declined to comment beyond the statement and a filing with the U.S. Securities and Exchange Commission (SEC).

It remains to be seen how the changes, the first substantive adjustments made to such a product's strategy since the turmoil two weeks ago, will be received.

The tweaks respond to a concern that volatility products' demand for short-term VIX futures exhausted the market's liquidity on Feb. 5, pushing prices up and exacerbating losses for traders betting on those contracts falling in value.

Fidelity recently prevented clients from buying some volatility-linked products "to protect customers from outsized risk during the current market environment," the company said in a statement at the time.

A commissioner at the SEC, Kara Stein, on Friday questioned the use of volatility-linked products, saying "the question should be...not can we create complex and esoteric products, but should we?" (Editing by Jacqueline Wong)

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