By Saqib Iqbal Ahmed

BONITA SPRINGS, Fla. (Reuters) - Excess financial leverage more than recent stock market gyrations, experts say, was behind the derailment of several popular investment strategies that employed options and futures to bet on low market volatility, seemingly giving derivatives a black eye.

The recent collapse of some of the strategies that had enjoyed massive returns in times of subdued volatility dominated presentations and breakout discussions at the Cboe Global Market Inc's (NASDAQ: CBOE) Risk Management conference in Bonita Springs, Florida, a major gathering of financial derivatives specialists.

Wall Street refers to using borrowed capital to goose returns as "leverage."

A 4-percent, one-day drop in the S&P 500 Index <.SPX> on Feb. 5, led to the largest-ever spike in the Cboe Volatility Index <.VIX>, Wall Street's so-called "fear gauge." It rang the death knell for popular 'short volatility' exchange-traded products and spilled over into leverage adjustments at other similar products.

"It was not so much a short volatility situation, it was a leverage situation," Dennis Davitt, chief investment officer of Harvest Volatility Management, said during a panel discussion, adding: "It was purely leverage."

The recent collapse of LJM Partners Ltd, a Chicago-based fund manager, after near-total losses in last month's volatility shock was a stark lesson in the dangers of excessive leverage, several market participants said.

"Too much leverage is the crux of the whole thing," Eric Metz, chief investment officer at SpiderRock Advisors LLC, in Chicago, who was not at the conference, told Reuters by phone. Metz said he was familiar with the type of strategy LJM had employed.

"If you were to remove the leverage component, they might not have been hurt all that bad at all. In fact, they might have been up in February because the market recoiled back," Metz said.

'Short volatility' strategies bet on future stock market swings being more muted than current expectations would suggest. In essence, these strategies pocket the 'risk premium' from selling insurance to cautious investors. One of the longest and most tranquil periods of stock market expansion had helped these types of strategies reap rich rewards.

But often these strategies overly relied on leverage - which allows large speculative plays at low cost - to garner big profits. So long as the market behaves as expected, the trades work well, but when an unexpected shock occurs, losses mount at an alarming rate.

Feb. 5's late-day unwinding of the short volatility position in VelocityShares Daily Inverse VIX Short-Term Exchange-Traded Note (ETN) may have set off a feedback loop of volatility that ultimately led to the product's termination, presents important lessons about managing risks, market participants said.

Investors should be wary of intra-day negative feedback loops in products and minimize these by lowering leverage, Benn Eifert, chief investment officer at QVR Advisors, said on Wednesday at the conference.

Reuters' attempts to reach LJM for comment have not been successful.

In LJM's case, their most recent filing with the U.S. Securities and Exchange Commission in October showed LJM Preservation & Growth Fund's portfolio of investments included both long and short options on S&P 500 Index futures.

But the fund's options holdings, set to expire at the latest by Dec. 29, 2017, were overwhelmingly net short, with the fund long about 3,600 put options on S&P Index futures, while simultaneously being short more than ten times as many puts options on the futures.

It is likely the fund did not have enough long put options to offset downside liability, said Connecticut-based Stephen Aniston, president of investment adviser Black Peak Capital, which focuses on volatility products. "This worked great in 2017, but it is terminal if you have a day like February 5," Aniston said.

(Reporting by Saqib Iqbal Ahmed; Editing by Daniel Bases)

Reuters