PT  - JOURNAL ARTICLE
AU  - Berlinda Liu
AU  - Hong Xie
TI  - Practical Applications of Hedging High-Yield and Emerging Market Bond Tail Risk With VIX® Futures
AID  - 10.3905/jai.22.s1.001
DP  - 2019 Jul 31
TA  - The Journal of Alternative Investments
PG  - 1--6
VI  - 22
IP  - Supplement
4099  - https://pm-research.com/content/22/Supplement/1.2.short
4100  - https://pm-research.com/content/22/Supplement/1.2.full
AB  - In Hedging High-Yield and Emerging Market Bond Tail Risk with VIX® Futures, published in the Fall 2019 issue of The Journal of Alternative Investments, Berlinda Liu and Hong Xie (S&P Dow Jones Indices) suggest a different approach to hedging tail risk in certain segments of the fixed-income market. VIX® futures are based on the implied volatility of equities and therefore are not an obvious choice for hedging the tail risk of bonds. Nevertheless, the authors show that there is a negative correlation between returns for high-yield bonds and VIX futures, and the strength of the inverse relationship increases during down markets. The same holds true for emerging market bonds. This should not be too surprising given that credit risk is positively correlated with equity market risk. In this light, VIX becomes a viable alternative hedging instrument for bonds with significant credit risk. The question then becomes how much does this protection cost? Because there are significant roll costs associated with VIX futures, a static hedge will create a drag on returns—but a dynamic hedge can effectively reduce losses during times of stress.TOPICS: Fixed income and structured finance, futures and forward contracts, emerging, tail risks