A little of both I guess... sometimes it flashes and nothing really happens. Other times I can see that the lights are on but when i play the guitar there is latency and/or a funny kind of vibrating "brrr"-sound. English is not my first language so that´s the best way i can describe it...
It sounds like it 'might' be a problem with latency, although if the lights sometimes keep flashing, then maybe something else is wrong.
Here is a page which looks at some things to do with USB that might be causing a problem:
The problem could be with other things running on the computer, and possibly some settings in the Line 6 Audio-Midi devices box. Please forgive me if you have already tried these things before. If you haven't tried these things, then have a look at the videos and pdf on this page:
This might help your audio. You could also adjust the buffer amount by going to the 'Line 6 folder' and in the 'tools' folder open 'Line 6 Audio-Midi devices'. If you move the lever to the right one position, you will get slightly more delay between hitting the string and hearing the tone, but this can help with issues where audio is cutting out. If it still doesn't help, move it again etc.
I hope something will help with your audio. Let me know if anything has worked.