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Abstract
Discussion Volatility-Related Developments (2018) On February 5, 2018, after years of low volatility, equity market volatility dramatically increased, and at the close of trading on that day the S&P 500® Index decreased by approximately 4 percent.1 The Cboe Volatility Index (also known as the VIX), a measure of expected future volatility of the S&P® 500 Index, reached an historical high that day.2 February 5 was dubbed "volmagedden" by some market observers as a result of the significant adverse impacts on some market participants. Mar. 2020)4 By 4:00 pm on February 5, the index for a '33 Act ETF whose investment objective was to track the inverse of a short-term VIX futures index (SVXY) increased by 33 percent from the prior day's close, and SVXY's closing share price at 4:00 pm that day had decreased by approximately 32 percent to reflect the expected decrease in net asset value (NAV).5 In order to meet its investment objective of tracking the daily inverse of its index, SVXY had to rebalance its portfolio between 4:00 pm (when SVXY's listing exchange closes) and 4:15 pm (when the VIX futures market closes) to reflect this decrease by purchasing VIX futures contracts.6 SVXY's attempted orders to purchase "hundreds of millions of dollars" of VIX futures contracts in furtherance of its investment objective during this 15 minute window were unsuccessful, however, due to competition with the purchases and sales of other volatility-related ETFs in the same market, which created a "liquidity gap. A class of SVXY's shareholders during the class period of May 15, 2017 (the date of SVXY's registration statement in effect on February 6, 2018) and February 6, 2018, brought a securities class action on January 29, 2019, with the US District Court in the Southern District of New York (SDNY) that included alleged violations of Section 11 of the 1933 Act and Section 10(b) of the 1934 Act and Rule 10b-5 thereunder due to alleged material misstatements and omissions in SVXY's prospectus included in its May 15, 2017, registration statement.8 The complaint's principal arguments focused on SVXY's prospectus' alleged failure to state that SVXY's own actions in purchasing and selling of short-term VIX futures to track its index in a crowded market could cause the value of SVXY's shares to decline.9 The court granted SVXY's and other defendant's motion to dismiss in an analysis that chiefly relied on the risk disclosures in SVXY's prospectus.10 The court appears not to have considered that the risk disclosures highlighted in the opinion, while extensive, did not directly address the possible losses that could be caused by the size of SVXY's positions relative to the size of the short-term VIX futures market, and how this positioning could create the increased potential for losses when SVXY is competing with other volatility-linked ETPs to purchase the same types of instruments in the same market during the same short window of time. [...]the court found that these disclosures "would lead a reasonable investor to know that [SVXY's] own conduct in purchasing and selling VIX futures contracts could affect market liquidity and drive down the value of SVXY shares," and concluded that the prospectus was therefore not materially misleading.11 Following the SDNY's dismissal of the complaint in the ProShares Order, the US district court for the District of Vermont dismissed similar claims filed by a pro se defendant with the same underlying facts.12 Set Capital v. Credit Suisse (2d Cir. 2021) Set Capital LLC and other plaintiffs that held XIV exchange-traded notes (ETNs) (collectively, Set Capital) brought a securities class action against the issuer of XIV ETNs, Credit Suisse Group AG, Credit Suisse AG and Credit Suisse International (Credit Suisse), among others, in connection with the "acceleration event" declared by Credit Suisse that terminated the ETN, which had traded at $108.37 at one point on February 5, 2018, and paid investors $5.99 per note.13 (ETNs are essentially unsecured notes issued by a bank, rather than a pool of assets held by a legal entity that is a trust or corporation.