CBOE: "VIX Futures And Options: A Case Study Of Portfolio Diversification During The 2008 Financial Crisis" Released

A recently released University of Massachusetts study found that certain investments in futures and options on the CBOE Volatility Index(R) (VIX(R)) could have reduced downside risk for a typical institutional investment portfolio during the 2008 financial crisis.

"VIX Futures and Options--A Case Study of Portfolio Diversification During the 2008 Financial Crisis" by Edward Szado, CFA, Center for International Securities and Derivatives Markets (CISDM) at the University of Massachusetts, Amherst, analyzes data from March 2006 to December 2008 (beginning shortly after the introduction of CBOE VIX options in February of 2006).

The paper first examines investment performance for different investment portfolios during the second half of 2008, when the increased correlations among diverse asset classes generated significant losses for many investors who previously considered themselves well diversified.The study then explores the impact of adding various exposures of long CBOE VIX futures or long CBOE VIX call options to those portfolios.

For a traditional portfolio of stocks, bonds and alternatives during the five-month time period from August through December 2008, the following are three ways in which long volatility exposure was added and the results during the period studied:

Using a 10% allocation to long near-term CBOE VIX futures--
- Total returns were improved by 15.7 percentage points (improvement to -4.0% from -19.7%)
- Standard deviation was reduced by about one-third (to 16.3% from 25.3%)

- Using a 3% allocation to long at-the-money one-month CBOE VIX calls, total returns were increased to +20.8% from -19.7%

- Using a 3% allocation to long 25%-out-the-money one-month CBOE VIX calls, period returns increased to +97.2% from -19.7%

The paper concludes by noting that "...investable VIX products could have been used to provide some much- needed diversification during the 2008 financial crisis." A link to "VIX Futures and Options--A Case Study of Portfolio Diversification During the 2008 Financial Crisis" is available at http://www.cboe.com/vix.

In its continuing efforts to provide education for institutional investors, the Chicago Board Options Exchange (CBOE) provided support for the 2009 VIX paper, as well as for several previous papers that cover options-based strategies (http://www.cboe.com/benchmarks), including:

- "Evaluating the Performance Characteristics of the CBOE S&P 500 PutWrite Index," Ennis Knupp & Associates (December 2008);

- "Evaluation of BuyWrite and Volatility Indexes: Using the CBOE DJIA BuyWrite Index (BXD) and the CBOE DJIA Volatility Index (VXD) for Asset Allocation and Diversification Purposes," Fund Evaluation Group (2007);

- "An Historical Evaluation of the CBOE S&P 500 BuyWrite Index Strategy," Callan Associates (October 2006);

- "Highlights from Case Study on BXM Buy-Write Options Strategy," Ibbotson Associates (2004);

- "Risk and Return of the CBOE BuyWrite Monthly Index," Duke University, Robert Whaley, The Journal of Derivatives (Winter 2002);

- "The Benefits of Index Option-Based Strategies for Institutional Portfolios," University of Massachusetts, Thomas Schneeweis and Richard Spurgin, The Journal of Alternative Investments (Spring 2001).

The CBOE Volatility Index (VIX) is a key measure of market expectations of near-term volatility conveyed by S&P 500Ò stock index option prices. Since its introduction in 1993, VIX has been considered by many to be the world's premier barometer of investor sentiment and market volatility.With historical data back to 1990, the VIX Index reached its all-time intraday high of 89.53 on October 24, 2008. In the first half of 2009, CBOE VIX options had an average daily volume of 96,185 contracts (33,023 puts and 63,162 calls for a 0.52 put/call ratio) and period-end open interest of 1,764,113 options.

Chicago Board Options Exchange (CBOE), the largest U.S. options exchange and creator of listed options, continues to set the bar for options trading through product innovation, trading technology and investor education. CBOE offers equity, index and ETF options, including proprietary products, such as S&P 500 options (SPX), the most active U.S. index option, and options on the CBOE Volatility Index (VIX), the world's barometer for market volatility. Other groundbreaking products engineered by CBOE include equity options, security index options, LEAPS, FLEX options, and benchmark products such as the CBOE BuyWrite Index (BXM). CBOE's Hybrid Trading System incorporates electronic and open-outcry trading, enabling customers to choose their trading method.CBOE's Hybrid is powered by CBOEdirect, a proprietary, state-of-the-art electronic platform that also supports the CBOE Futures Exchange (CFE), CBOE Stock Exchange (CBSX) and OneChicago. CBOE is home to the world-renowned Options Institute and http://www.cboe.com/, named "Best of the Web" for options information and education.