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Over the past 3 months, VIX has been relatively low. Therefore, there seems to be a "free-lunch" here by just being long VIX, and wait for the next market turmoil (which is happening at the moment with the US-China trade war).

Of course I know that such an obvious free-lunch is not possible in the market, due to some constraints I am certainly missing.

I was told by a trader that it comes from the carry costs you have to pay for being long VIX. I am not really familiar with this carry cost notion for futures here, so it does not really help my understanding.

Besides, there is a VIX ETF (VXX) that I could just have bought and hold until today, and make a 20% return from April till now.

Can someone therefore explain:

  1. How carry costs work for VIX Futures?

  2. If carry costs apply to VIX ETF, where in the case they don't apply, there should be something else I am missing otherwise I would just be long the ETF.

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    $\begingroup$ Jeje, the "carry" is what you pay each day if nothing happens, it is in option greek the "theta". If you don't get your turmoil you lose on the VIX bet. That said, I agree on your market view. $\endgroup$ – Mats Lind May 17 at 9:22
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    $\begingroup$ @MatsLind Thanks, the analogy with the theta greek helps understanding. But then, it means that the VIX graph does not account for this time decay. How about just being long the ETF then? Does carry costs also apply to ETF?? $\endgroup$ – JejeBelfort May 17 at 9:47
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    $\begingroup$ @JejeBelfort Judging from the chart in the product page you point to the carry costs are included. Long VXX lost money in most periods, probably because the position hedge you against turmoil, which I guess have to come at some cost. $\endgroup$ – Mats Lind May 17 at 10:40
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    $\begingroup$ It is definitely not time decay. There's no time decay. The reason why you lose is the negative carry due to contango term structure: while time goes by, futures contracts converge to spot price (VIX index), which is the lowest in contango and the highest in backwardation. ETFs that roll futures contracts to keep constant maturity are endlessly selling something that has usually lost some of its value to buy something that is a bit more expensive. This yields a constant "erosion" of the fund value so that you cannot simply buy & hold. Proper timing is required to anticipate backwardation. $\endgroup$ – Lisa Ann May 17 at 10:40
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    $\begingroup$ @LisaAnn Thank, it helps! So if understood correctly, VIX futures are typically in contango (i.e. the future price is higher than the spot), and converge to the spot price, so you lose money. $\endgroup$ – JejeBelfort May 17 at 11:13
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Put simply, VIX is a spot index (fair value to a variance swap on SPX of constant maturity) that you cannot own as a security. Market participants create futures for you to trade. Futures trade higher than the VIX -- if you long VIX futures, you lose when the futures contract converges to VIX. You therefore have a negative roll-down. VIX ETF doesn't avoid the issue at all, it blends two futures contracts and tries to rebalance the weights.

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