VIX futures are often used to hedge equity portfolios because they have negative correlations. In order to get continuous hedge, one needs to roll the front expiring futures to back month futures. What are the cost of such hedge?
If VIX futures are in contango, which is the case most of the time. To maintain the amount of hedge (or hold the same number of contracts), one needs to pay rolling cost because one sells cheaper front futures and buys more expensive back futures. It’s like one pays premium to buy insurance over house and cars.
Imagine VIX futures are the same for all near and long-term futures, there’s no extra cost rolling from near-term to long-term futures. This means one can get free hedge. That’s unlikely to happen. After all, there’s no free lunch.
If VIX futures are in backwardation, which usually happens in extreme volatile period. Future rolling can actually generate profit if one only needs to maintain the same amount of future contracts. This basically says you’re paying too much premium for hedge at this extremely volatile moment. Your premium will be lower in the future. This doesn’t happen often. After all, nobody wants to overpay car insurance premium under normal conditions except right after some accidents. People make emotional decision under the control of fear.
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