There was an interesting back and forth between our own Jeff Malec and Sean Brown of YCharts on a recent episode of ‘The Derivative’, talking what the responsibilities of a FinTech software platform are in terms of balancing nice looking GUIs and gamifying investing, and the responsibility to make sure that the users actually know what’s going on and the risks they are taking. This was brought into sharp relief last month with the tragic death of a young trader who was way over levered on Robinhood. For the nasty bits of what’s going on there, check this NY Times article.
Just to drive this point home even more, three pieces of as dense (in a good way) content as you can get centered around the huge amount of complexity that comes along with options trading hit the wires in the last two weeks. Just how complex are options pricing, bid/offers, and strategies. We dug into the recent musings of these professionals and were left scratching our heads and asking more questions (and we do this day in and day out). Take a look/listen:
Squeezemetrics dishes on GEX/VEX
If you aren’t following SqueezeMetrics on twitter @SqueezeMetrics….start. It seems all they talk about is the GEX and or VEX, but their recent paper shows why it’s so important. It provides a map of where and how liquidity is taken and provided to the S&P 500, and by default – sort of the whole system. Buckle in and take a sip or bite of your best brain food as you get tidbits like this:
Ironically, the only thing that can really cause those 20% to 30% declines in the market is when so many people sign up to provide liquidity via put sales that a mere sign of the scarcity of liquidity (IV going up) automatically withdraws that liquidity from the market right when it’s needed most. But hey, whenever something as simple as the supply and demand of a market’s limit order book becomes so abstracted, you should expect to see little ironies like this, where everything is suddenly turned on its head. Of course, the underlying truths of the order book will never change—options are just one way to take and supply liquidity. What’s dangerous, though (for us and for the whole market), is when we conceptually distinguish options and their underlying. They are not distinct.
Now more than ever, options are the order book. Hopefully, the concepts of GEX, VEX, and the “implied order book” provide a tidy new framework with which to understand index liquidity, its drivers, and what that means for the stability of the broad market.
Benn Eiffert on Flirting with Models pod with Corey Hoffstein
Benn makes a living doing complex variance swaps and more, but allows Corey to pepper him with some ‘dumb’ questions around option/vol strategies like selling puts, when want to be long, selling covered calls to generate some extra income, Iron Condors, and trading VIX products like SVXY or TVIX, before going into the nitty gritty of harvesting implied minus realized, dollar Vega exposure, buying a straddle – and more.
Mutiny Fund’s Jason Buck interviewed by Hari Krishnan on RealVision
Here we listen to the CIO of a fund dedicated to finding the best of the best in the option space essentially admit that, yes, it is that hard – and so they sort of punt and hedge all best by employing many different types of option profiles across many different managers, in what Buck calls an “ensemble” approach to anti-fragility. Buck and Krishnan rigorously examine the benefits of different long vol strategies, such as options, shorting indices, and relative value trades on the VIX. Krishnan explains his quantitative framework for evaluating options, and gives in-depth option trading insights based on their tenor and “moneyness.” Buck and Krishnan discuss how a diversified approach to long volatility can heighten the benefits of long vol exposure, especially during “Minsky Moments” such as how the coronavirus pandemic markets have been experiencing since earlier this year.
The takeaway = options and volatility/VIX trading is about as hard as it gets in the investing world. This is just three short works touching on some of that complexity, and it made our heads hurt (in a good way). The takeaway = seek out expertise. Seek out those who understand variance squared, greeks, higher order moments of the distribution (tails), and more. Your portfolio will thank you for it.