Worst Case Scenario for Shorting VXX

Now that I’ve been trading the short VXX strategy and its variations for almost a year; I felt very motivated to try and estimate some worst case scenarios before 2009 when VXX was created. To do so, I did some rough quick and dirty calculations using the historical VIX Futures settlement prices as well as a simple OLS regression.

First, I used the following formula to determine the “Estimated VXX Price”. It is just a weighted average of the front month and second month futures’ settlement prices where the weighting is based on expiration.

For example, if it is the beginning of a 30-day term, then DTE is also equal to 30 so that the Estimated VXX Price is just equal to the 100% of the front month futures’ settlement price.

Next, I calculated the price return of the Estimated VXX Prices and used an OLS regression against the actual VXX returns. In essence the return formula for my Estimated VXX Return would be:

The regression estimates I calculated were then:

Since the R-Squared is relatively high for my estimated model, I can use the estimated coefficients to calculate ball-park returns for VXX before 2009. I’ve created the top-10 worst return days before 2009 as well as top-10 worst return days of actual VXX returns post-2009. Note that what I refer to as worst return days is days with the largest positive return in VXX since my strategy is to generally be short.

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