Chasing the Hot Hand is Usually a Bad Idea

Each month I show the month and YTD results of all of the simple VIX trading strategies we’ve talked about on this blog (which are of course separate and unrelated to our own strategy).

Just to be clear, the point of showing these results is not to imply that readers should choose the best performer in recent history. To the contrary, that would usually be a bad idea.

To illustrate, below in grey are the results of all of the simple strategies we’ve blogged about previously, trading XIV and VXX since 2005 (1). The bold line in red assumes that at the end of each month we selected the best performing strategy of the previous 6-months and traded just that strategy for the next month.


Read about test assumptions.

In terms of risk-adjusted performance (Sharpe and UPI), the red line performed worse than nearly all of the individual strategies.

Because of how volatile VIX ETPs like XIV and VXX are, one day’s difference here or there can have an enormous impact on returns in the short-term. That means choosing strategies based on which one has the hot hand at the moment is usually a bad idea.

I think it’s much more effective in the long run to select strategies based on a more comprehensive understanding of the individual factors that drive VIX ETP returns (see examples here and here).

Click to see Volatility Made Simple’s own elegant solution to the VIX ETP puzzle.

Good Trading,
Volatility Made Simple

(1) TM’s RSI(2) strategy was not included in this analysis because of how infrequently the strategy trades.

Posted in Strategy Mechanics.