The Epidemiology of Volatility Transmission & Management
There are common pathways in the transmission of viruses and volatility. Volatility, like infectious disease, is transmitted through common sources. Sources of volatility transmission include investor psychology, market contagion and liquidity pressures. The science of epidemiology is a useful mechanism to examine market contagion and volatility spikes – both UP and down.
Much of what’s written about trading volatility is simply wrong. Cboe’s Volatility Index (VIX) is a crowd-sourced estimate for the anticipated volatility of the S&P 500. But the meaning of a given VIX level is frequently misunderstood1. A key trait of volatility (realized, or implied) is that it has a tendency to revert to its mean2.
Assuming implied volatility is an unbiased estimate of future realized volatility is an often-made mistake. Distortions in prices of VIX-linked instruments and equity indices often times create opportunities for investors willing to take the other side of volatility trades. There are proven ways to mitigate volatility and “vaccinate” portfolios from left tail-risk.
The VIX, VIX futures and options provide a window into estimates of expected volatility– such estimates often have inverse correlation to market price-movement. The time-varying volatility of volatility is also a significant risk factor which affects the cross-section and the time-series of index and VIX option returns, beyond the volatility risk itself.
Virus & volatility hazardous to Health and Wealth. There’s a nagging concern that a second wave of virus and volatility infections may occur once lockdowns are lifted. Volatility created by global pandemics and contagion can quite literally make investors and their advisors sick. A growing body of epidemiological evidence has documented “excess monthly deaths” of medical fallout from recessions3.
The presenters will discuss proven ways to manage and mitigate portfolio volatility and mitigate the high performance drag and cost associated with traditional tail-risk strategy.
2Ibid, “Reading VIX®”, Nov-2017
3Coates, J. M. & Herbert, J, “Endogenous Steroids and Financial Risk Taking on a London Trading loor”, PNAS.org, Apr 22, 2008.
The Epidemiology of Volatility Transmission & Management includes:
- R₀ (naught) Transmission Volatility
- Common Vectors of Transmission
- VIX & Mispriced Variance Premiums
- Long VOL Unsuitable Buy-&-Hold
- “Vol Loop Thesis”/Revert to Mean
- Panel discussion–Volatility Traders
- Audience Questions & Answers
- Key Takeaways/Action Steps
For Certified Financial Planners (CFPs), the program has been registered for 1-hour of CE. References are available upon request