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Subduing the enemy: The Ins and Outs of Volatility Trading

Aug 14 2012 3 Comments
Volatility is the enemy of most investment strategies, which generally do better in rising than falling markets. Veteran volatility trader Michael Wexler from Maple Leaf Capital explains how investors can actually profit from volatility by employing strategies that make more money in higher volatility than low vol environments. This is possible because the dislocation in the pricing of options between fair value and actual trading is greater at higher volatility levels. Historically, Maple Leaf's funds have made money in both rising a ...more

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Please use the comment feature below for your feedback, or email me at knab@opalesque.com. Thank you!

Matthias Knab Posted On Aug 14 2012

Michael Wexler has answered Charles' question:

"Hi Charles,

Glad you enjoyed the video.

If we assume in advance all correlations got to 1, then the only way to be prepared is position sizing, in other words holding enough in cash that when the shock and loss comes you are able to sustain the drawdown.

That said, correlations don’t “got o 1 in everything”. That’s kind of a cliché thing to say. Correlations go to 1 across single equities in particular, and across equity indices globally.

That’s why I made the point that equities is the worst asset class to focus on if you trade one asset class only. On the opposite side of the spectrum is commodities, which include 4 distinct areas – precious metals (which behave like currencies), base metals (which are driven by economic outlook and usage), agricultural (which is driven by the weather), and energy (which is driven by a combination of the factors above). In commodities I would not say at all that “correlation goes to 1” when markets become difficult. It depends entirely on the cause.

In 2008, Lehman made most things move aggressively, because it was a crisis of financial instruments – solvency and liquidity. Since all assets have a price denominated in money, then a shock in ‘money’ means a shock to the denominator of all assets. However more frequently, historically, shocks are driven by economic cycles, war, or natural disasters. These are catalysts that are more severe on certain assets and certain geographies than others.

I hope that helps a bit clarify how we think about shock events and preparing for them.

Regards,

Michael"

Matthias Knab Posted On Aug 27 2012

Hi Matthias,

I just watched the video, an excellent interview. Myself is also a volatility-focused asset manager. I actually have a strategy-related question for Michael. In the interview, Michael talked about the importance of asset diversification to avoid big equity curve shock, however, as we experienced in the past few years, including Lehman 2008 event, almost all assets' correlation converges into 1 or -1 during crisis periods, diversification didn't seem to pay off that much. In light of this, what measures does he or his fund take to address this correlation problem?

Charles Dai Posted On Aug 23 2012

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