Monday, December 14th, 2009
Volatility arbitrage (or vol arb) is a type of statistical arbitrage that is implemented by trading a delta neutral portfolio of an option and its underlier. The objective is to take advantage of differences between the implied volatility of the option, and a forecast of future realized volatility of the option’s underlier. In volatility arbitrage, volatility is used as the unit of relative measure rather than price – that is, traders attempt to buy volatility when it is low and sell volatility when it is high.
To an option trader engaging in volatility arbitrage, an option contract is a way to speculate in the volatility of the underlying rather than a directional bet on the underlier’s price. If a trader buys options as part of a delta-neutral portfolio, he is said to be long volatility. If he sells options, he is said to be short volatility. So long as the trading is done delta-neutral, buying an option is a bet that the underlier’s future realized volatility will be high, while selling an option is a bet that future realized volatility will be low. Because of put call parity, it doesn’t matter if the options traded are calls or puts. This is true because put-call parity posits a risk neutral equivalence relationship between a call, a put and some amount of the underlier. Therefore, being long a delta neutral call results in the same returns as being long a delta neutral put.
Forecast volatility
To engage in volatility arbitrage, a trader must first forecast the underlier’s future realized volatility. This is typically done by computing the historical daily returns for the underlier for a given past sample such as 252 days, the number of trading days in a year. The trader may also use other factors, such as whether the period was unusually volatile, or if there are going to be unusual events in the near future, to adjust his forecast. For instance, if the current 252-day volatility for the returns on a stock is computed to be 15%, but it is known that an important patent dispute will likely be settled in the next year, the trader may decide that the appropriate forecast volatility for the stock is 18%.
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Wednesday, November 5th, 2008
Casual trading is a newly developed variant of financial trading. It consists of the same principles carried out in trading rooms but involves the use of trading platforms that can be operated from the trader’s residence.
Casual trading is a general name for all trading actions that are carried out by individuals without the use of a mediator. They can be found in stock exchange, foreign exchange, commodities and other markets.
There are three major markets in casual trading. They are — stocks, foreign exchange (forex) and commodities.
Stock market stock trading or (equity trading) is trading of company stock and derivatives of company stock at an agreed price. Both of these are securities listed on a stock exchange as well as those only traded privately.
In foreign exchange (currency or forex or FX), market traders select a currency pair in which one currency is traded for another. It is by far the largest financial market in the world, with the average daily trade in the global forex and related markets estimated at US$ 3 trillion. In forex, it is common to use leveraging which enables traders to generate large profits but which is considered quite risky for the inexperienced trader.
Commodities are things for which there is demand, but which are supplied without qualitative differentiation across a given market. Characteristic of commodities is that their prices are determined as a function of their market as a whole. Generally, these are basic resources and agricultural products such as iron ore, crude oil, coal, etc (for a full list see List of traded commodities).
Casual trading versus standard trading
The principal differences between casual trading and floor trading are in the traders’ experience, volume and location. Professional traders usually carry out their trades from the trading floor and carry large volumes. Casual traders do not trade as a profession but as an addition to their everyday lives. They usually trade from their own homes or “day job” offices using an Internet connection and a trading platform software day trading software, which is monitored and regulated by the National Futures Association (NFA).
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