Protecting the Portfolio not with Long Vol, but with Long Gamma, with Convexitas

When in Rome do as the Romans do?…Did they have convexity? They had the word, convexitas, and in this episode, we are joined by not one, but TWO brainiacs in the option and vol space, Devin Anderson and Zed Francis from Convexitas. Devin and Zed making noise in the derivative world by launching the first true discretionary, all separate account implemented, derivative manager into existence.

Tune in as Devin and Zed talk us through constructing Convexitas, their long gamma tail liquidity strategy, why short deltas can often be better than long vega (volatility), including why and how logistics, design and structural impacts – including tax consideration – matter when choosing protection for your stock heavy portfolio. We go on to ask where we are on the institutional vol selling popularity curve, and what’s wrong with some of the popular portfolio protection strategies such as the behemoth hedge equity program. We close out this episode with their hottest takes, where you’ll want to listen to see who thinks The Beatles are overrated and who is a semi-pro shooter.


Highlights from this week’s episode include:

  • Learn how Convexitas designed its tail liquidity to reinvest capital during drawdown events and be the excess return driver
  • Vol expansion and what happens when people are overpaying and all utilizing the same instruments to protect
  • The different dynamics of hedgers reacting to where the market goes and how Convexitas responds
  • What derivative managers get wrong when it comes to tax, why they shouldn’t bring institutional thinking into the family office and retail world, and how to understand the benefits of derivative investing, plus more!


Find the full episode links for The Derivative below:



Check out the complete Transcript from this weeks podcast below:

Protecting the Portfolio not with Long Vol, but with Long Gamma, with Convexitas



Jeff Malec  00:07

This is brought to you by our teams managed futures group. Managed futures had to come back here last year with a spike in commodities and inflation top. And our Sam’s professional team of advisors helps investors vet to do the due diligence on hundreds of professional managers in this space. Check out everything our RCM RCM And while you’re there some intel to go with today’s pot focusing on volatility trading, check out our newly updated vix and volatility white paper, just click the Education tab, then white papers, send it Welcome to the derivative by our Sam alternatives, where we dive into what makes alternative investments go analyze the strategies of unique hedge fund managers and chat with interesting guests from across the investment world. Okay, we are here with Devin Anderson and Zed Francis of convex us. Welcome, guys.


Devin Anderson  01:02

Thanks for having me.


Jeff Malec  01:03

Yeah, thanks for being here. My pea brain goes immediately to Zeds dead babies instead, every time we chat. How long do you get that for after a Pulp Fiction came out?


Zed Francis  01:12

I mean how long? It’s obviously still. Right. I think for the entire, you know, 36 years of my life. That’s been the how I’m introduced to everybody.


Jeff Malec  01:24

I love it.


Devin Anderson  01:26

When did nobody and by the way, Jeff, no one knows where the name even came from?


Jeff Malec  01:30

Oh, maybe that was it? I can’t I don’t have my dates aligned correctly.


Zed Francis  01:37

I was about 10. I was about eight when that movie came out. But yeah, no, it’s Devon said it was with our best guess it’s a family name. But nobody knows where it came from. But our best guess it’s an Ellis Island correction. Where you know, it was 12 letters with no vowels from somewhere and you know, battle Central Eastern Europe. And they’re like, Nah, America can’t do that.


Devin Anderson  01:59

You know, he’s the, he’s the fourth is that really


Jeff Malec  02:05

said the fourth. Which I would have gone with Zod after like, Superman too.


Devin Anderson  02:12

That’s a deep cut, dude. It’s a deep,


Jeff Malec  02:15

deep, deep guy. And so let’s do some quick five minute backgrounds on how both you got into the derivative space how convex this came to be. Who wants to go first Devin will go alphabetical. Devon gets it on both counts. First Name and Last Name.


Devin Anderson  02:32

Got it. So I I came to the finance world after business school, I’d already had a 10 year career in the technology world where I helped start two internet companies. And I also did a stint at Lycos the search engine for even a deeper cut in 1999 to 2001 back. So when people talk about the internet bubble, I was there maybe right on the front line of it. But I went to business school and found that derivatives kind of the dread was rolled there then I came out of Carnegie Mellon and spent 15 years at Deutsche Bank in a bunch of different equity driven and related roles. The second to last of which was the head of the solutions business in the Americas, which was everything from fun structuring to exotic to investable indexes to retail structured products. And then actually my last job at Deutsche Bank was in the bad bank unwinding all that stuff. So I had I had both the building and disposing of it aspects which were which were each interesting in their own right, but we spent a lot of time in the solutions business talking to the family office institutional space and interestingly, I’m gonna let that do his background but a lot of why of why convex toss was created was lessons learned from that experience. And you know, what I was slowly figuring out over that period was a lot of the same things that Zen was figuring out although from a different style of seat and when it came to an end for us at the equity derivatives wall really all of equities Deutsche Bank, we put our heads together and realize that I you know, kind of our unique take on how to do the derivative management business maybe made some sense and was unique and a little different than what the world is seen. So without a lens I talk about his background.


Jeff Malec  04:34

Real quick. Did you start when you were eight? Like there was a lot a lot of history for a young looking, but I did


Devin Anderson  04:40

I I had I had to be driven to my first interview.


Jeff Malec  04:45

What’s that like us?


Zed Francis  04:50

I’m much more boring having an entire career my financial in the financial services space. And Devin can attest the only thing I’m good at technology is breaking it


Devin Anderson  05:01

Same world class you do a T tester


Zed Francis  05:06

but yeah, no my random walk without doing too much LinkedIn pages credit sales, PMS long short distress credit hedge fun, large UK asset manager, boutique derivative overlay manager, and then we got to hear back from us, I would say, you know, what I think is unique about my background, especially when it compared to call it or evolved peers is I’m my foundation is definitely in credit. You know, two thirds of everything I’ve traded throughout my career has definitely been equity related derivatives and equity, vol related derivatives. But all the background of how I think about the world is driven by the fundamental credit view from the foundation of my, you know, kind of career. So it gives us I think, a little bit of a different view of things having that being the backdrop rather than being equity and equity vol only focused. But as Evan said, to kind of transition into the firm, we we’ve known each other since the start of our financial services careers, essentially back in 2007. Devin covered me when I was at that long, short, distressed hedge fund was caught, you know, one of his first dozen or so clients when he got into that seat, and he’s, you know, happily followed me as I moved around different buyside shops throughout my career. But, you know, we really came to the conclusion that what the world was missing from a correct implementation of distributive strategy seat is somebody that’s very, very tax aware designs, the operational structure within that tax where wrapper and then is focused on positive returns rather than sales process, which we’ll dig into a bunch into. But everything that we’re operating from a strategy side, we actually think has positive expected return and has a fundamental backdrop of why we design things that way. It’s it wasn’t a marketing exercise, to see what we thought was really digestible by the public and easy to scale. And that’s, that’s a little bit of early flavor, Jeff, just for some of your later thoughts of what other things are out there. And what do you think about him? Yeah. But I want to just let’s let the table be set there and pass it back to Devin for a little bit more of an overview of the firm. Before we jump to the next steps.


Jeff Malec  07:30

What are the name Convexitas was a hedge fund Name Generator? Yeah, it would have had a river or a bay in it. Is that Yeah,


Devin Anderson  07:38

no, we I think we actually were we were pretty orthogonal on that one. We, you know, there were there were many ideas. And we were actually both shocked that the Latin word for convexity was not in use. Like we went to the lawyers and said, do the work on this thing. We know you’re clear. We went yeah. Why don’t you be sure. Yeah. But ya know, we, we came up with that one, just, you know, with the Google Translate.


Jeff Malec  08:04

And did were the were the Romans even dealing with convexity? That’s, that’s a whole nother concept for another podcast. Yeah, no,


Devin Anderson  08:13

I think there’s actually I don’t remember well enough, but I, I’m pretty sure that there’s a there’s records of futures transactions going all the way back to that period of time.



Zed Francis  08:26

In the fall of empires, the ultimate Comdex moment and


Jeff Malec  08:29

yeah, or mount yet no, what was the volcano that buried all the people? Yeah, there’s a couple of tail events happen. So dig into the firm a little more.


Devin Anderson  08:42

Yeah. So what we what we what we do, what we’re, what we believe that we’re, we’re different add is, our whole viewpoint is that there’s a couple things you have to swallow to really get the best implementation and the best benefit set and access to the best opportunity said, in the derivatives management space. And it requires bringing a couple pieces together. So we set out to launch that, as far as we’re aware, the first, true discretionary, all separate account implemented derivative manager in existence. And there’s certainly people that kind of take one box or maybe a little bit of both boxes, but we’re really not aware of anybody that doesn’t quite like us. And the reason that those things are important, Jeff, is that there’s no there’s no funded solution that you don’t end up making really big compromises on in the investment opportunity set. Okay, so you take your traditional tail fund, for example, if if you’re first of all, there’s all kinds of weird models of AUM and funding and so forth. But the bottom line is, if you have to put a lot of cash into it, right And you have to take money away from an existing asset allocation portfolio wherever, you know you think your real alphas coming from to, to put on, for example, risk mitigating strategy, then then right off the bat, we’ve got a big problem, right? There’s, there’s a problem that you’ve now taken capital away from, from the primary assets, there’s a problem that for the manager, and that it restricts their opportunity set, because now they’ve got to come up with things that are going to return 10,000%. So they’re, the point is, these things can’t be funded. And that means that you got to run, you got to run your mandate, a separate account. And that comes with a pretty big list of operational challenges that a lot of managers, particularly in the hedge fund world just have decided that they’re not interested in dealing with, I mean, frankly, you go through some onboarding exercises with four or five custodians would like, you know, understanding why. So, but we’ve just chosen to bite off at Apple and do it. We do run fully discretionary strategies, we do support, you know, at this point, I think six custodians, five, five to six right now with three more coming like, you know, so we’re gonna have, we’re gonna have support across all of the primary custodians here within a few months.


Jeff Malec  11:21

The concept there’s also is the mainly rebalancing of okay, if I’m paying out on my hedge, we’ve made it very delete a little bit of like, the main thing you’re trying to do is protect, protect downside?


Devin Anderson  11:33

Well, I wouldn’t say that I mean, that getting strategy. That’s it, we have products, that all operate off of the same principles. So we have beta replacement products, we run a product for one of the biggest RAs in the country that replaces semiconductor exposure in a very convex nonlinear way due to the particular options market microstructure that that you can lean on in order to create that profile. Then, of course, you know, our flagship product illiquidity, which is a risk mitigating strategy, we’ll probably spend most time on here. Yeah. And then we do some concentrated stock, and, you know, single, single name, large position, risk mitigation, in tax awareness, mitigation stuff as well. If, if there’s a if there’s a reasonable opportunity in that name, or in the naming question, so but the point is, all of these things have a theme and to get the benefits that you really want kind of ranging from tax to liquidity to, to the correct investment opportunity. So it’s really got to be unfunded, it’s really got to be in separate accounts. So the managers got to bite the bullet and then just do the work and put the pipes in place and write the code to be able to support it, which we have.


Jeff Malec  12:46

And talk to me a little bit of you’d say unfunded, but there needs to be some funding in that account. You’re just saying the money in the same account, but it needs to have some funding, correct?


Devin Anderson  12:55

Well, so it depends. It depends on the custodian and a product and the specific situation. But when I say unfunded, I mean, we’re not kind of creating, if you, for example, if you wanted $100 million of, of tail risk of tail of our risk mitigation strategy, tail liquidity, you’re not writing us $100 million check, right, or you’re not or even a $50 million check, we’re collateralizing it with the assets that you already have in your account. So you know, depending on your specific situation and your custodian, we actually might be able to, to get the collateral requirements all the way down to zero income or cash. Or we might need some amount, even low single digits of percentage of unencumbered cash. But it’s nothing like kind of the traditional, the traditional world where you go out and you buy a pooled vehicle,


Jeff Malec  13:45

right, where I’d have to sell 10% of my beta funded in this separate fund and then deal with the rebalancing and the monetization.


Zed Francis  13:55

There’s really three key things. It’s you know, it’s Devin said date, day one we’re not pulling capital from elsewhere in your portfolio is your current portfolio is collateralizing. All of our operations, there’s no day one tax event, there’s no last opportunity benefit of not being fully invested. Step number two is because it’s your current portfolio collateral supporting our operations, it allows us to actually design a, we’ll call it now more likely to produce value strategy, rather than something that’s fully funded because if it’s fully funded, you have a very limited opportunity set. And if I have the ability to operate a strategy that’s collateralized by your current portfolio, I have a vast opportunity set. So you know, in step one, you know, we’re not taking money away from anywhere else allowing to be fully invested not creating a tax meant to because of the structure I have much better opportunities than other folks to try to deliver positive p&l and then step three, which is the you know, we’ll call it the most important piece and is the piece and when we speak with folks, take takes a little bit of hands Hold on go to the finish line is we are that liquidity provider during, you know, market crashes even she’s trying to word even market sneezes the little, you know, three, four or 5% pullbacks we’re providing, you know, some, you know, reasonably substantial capital considering the level of those moves for folks to take that cash and either service, you know, lifestyle, a, they sell, you know, a, you know, 25 basis points or portfolio every month to live, you know, larger family offices and, you know, service capital calls during drawdown events, you have to sell stuff, you have cash sitting there, we’re just plain vanilla redeployment of capital, which a bunch of our current investors do whenever we create 5% cash in their portfolio, they take the cash and they buy more s&p 500 like risk and, and that’s three kind of steps. Again, you know, unfunded meaning we’re not taking money away from you, it’s your current, you know, assets supporting what we do a better opportunity set, and cash to go ahead and be an opportunistic, redeploy our capital during market drawdowns. That’s why the operational structure is incredibly important for not only our delivery, our p&l and isolation, but more importantly, a client’s holistic portfolio. Because once you hit those three steps, right, we, we actually believe that we’re ending up with a situation where your expected returns are going up. Even though day one, this is risk, many mitigating strategy. So, you know, we don’t all like over promise. But in theory, if everything works as its intended, we think we have something that’s going to increase the absolute returns of the portfolio, well, having a Realized volatility of that portfolio of about half or, you know, reducing the mark to market risk portfolio in half. And if we’re able, obviously achieve that with a mix of our discretionary management with the correct operational structure, then, you know, then we when we really have


Jeff Malec  16:49

been, you’ve hit a homerun, the end, what are the limits of that? Like, say I have the 500 founders or CEOs of the s&p 500? And they’re heavily invested in the stocks of each of those companies? Are you customizing to each of those holdings to each of those customers? Or there’s some limit of like, the amount of customization that’s possible?


Devin Anderson  17:13

So it’s different? If I think you’re asking a slightly different question. I mean, if it, if they have truly concentrated positions in single stocks through we have a different answer for that guy, maybe. And maybe depending on the single sock, we, we could add some value, and maybe we can, depending on the whole surface for that particular name. But for the tailor for liquidity for the for the primary product, it’s all linked to s&p beta. So in order for us to really feel good about us providing a portfolio level impact that we would that we can anticipate and control, we’re looking to operate it on the s&p equivalent beta of your portfolio.


Jeff Malec  17:57

Okay. So you’re not messing around with Robin Hood holdings, or


Devin Anderson  18:04

in Jeff, I go one step further is to say, I think one of I think people kind of get this whole concept of bespoke hedging really wrong with because it’s curious to me that no one would look at the Alpha side of the house. And not think that security selection, and in acting on the opportunity set that’s available to you in the market is the most important thing, right, but then all of a sudden, when it comes to the head to the risk mitigating side of the house, then it’s, well, we’re going to create this custom thing. Well, I mean, shouldn’t the primary concern on the risk mitigating side of the house also be what the market is presenting to you, and that has absolutely nothing to do with the contents of your asset allocation portfolio, you know, what the s&p surface is giving us and the biases and dislocations on the s&p surface are that we can lean on in order to create the kind of convex and risk control Delta exposure that that that’s talking about earlier, that has nothing to do with the contents of your portfolio that has everything to do with the opportunities being provided to us. Now, that doesn’t, you know, we can do a lot with sizing, right? And we can say, what is how does your portfolio behave in s&p terms? And in what scenarios is that are those correlations going to be high and what other ones are they going to be low? But I think our business goes wrong when they start telling people that well, you know, you have this so we’re going to do something completely different. Like it just doesn’t make a lot of sense to us. And furthermore, most you know, having worked at an investment bank, dealing desk, you know, most of the of the quote custom things that someone’s going to call them banged up for and asked for a price on end up reducing almost entirely to s&p Anyway, right? Like, you know, you’re not you’re not hedging MSCI World puts with some complicated basket of I mean, it’s just not it ends up. It’s like 8080 to 95% s&p anyway. Right? Um,


Jeff Malec  20:18

I don’t think it has a arc, right? All these charts on Twitter now of like, here’s all the holdings, a lot of them are down 80%. Like, for sure there’s 10s of 1000s of investors out there where each of those down 8070 60% line items are their main holding. Right. They’re concentrated holding, which I think I hear you saying like, Well, that was done that shouldn’t have been your concentrated omen.


Devin Anderson  20:40

Oh, yeah. So I mean, but that doesn’t, so sure. Okay. But that doesn’t mean that there’s an opportunity for a derivative manager to come in and put something together that actually makes sense, right. Like if the, if the prices of, of those single stocks and ETFs aren’t tenable for a long term risk mitigating strategy, it can’t it kind of doesn’t matter. Right. So then the answer is probably be a good example. Yeah, you need you need to just reduce the risk of the of the cash holdings in the in the base allocation. Right. So I guess, you know, what I’m saying is that I’m not the risk mitigating strategy doesn’t work everywhere, right? It has to be, you know, it has to be treated with the same portfolio management and pursuit of alpha, that the asset allocation side of the house gets. And that’s not always possible, depending on the underlying.


Zed Francis  21:35

Yeah, I mean, there’s, you know, as I say, there’s two conversations. So say you’re, you know, a $50 million family and 45 million of the net worths. And Tesla, you came to us and said, I would like to reduce my Tesla exposure, for obvious reasons, when my cost basis is $1. And that’s a pretty hefty tax bill in California, what can we do? Well, we would look at Tesla vol service, we would say, you know, what, I actually think there might be some edge here, if it was Microsoft, you’d be like, I got no edge, like, go get a smaller provider that’s just gonna randomly buy puts, because I, you know, that’s probably about as good as what I can do anyway, because I can’t provide a lot of energy for Microsoft, but something like Tesla, maybe the outcome is, we do think we can probably have some edge, and all we’re gonna say to them is your experience is expected to be about a two thirds mark to market risk reduction, both ways, you know, stock up, or we’re gonna have a lot of losses, stock down, you know, roughly doing our job and a lot of games. But the ultimate goal here is for you to tax efficiently sell that asset. And if folks aren’t actually really interested in reducing that risk, then we’re not we’re not the right folks, either, like we’re taking two thirds of the risk out day one without credit a day one tax event. And over the long haul, if the stock goes up a bunch we have a lot of losses, tax loss, harvest user loss and sell down stock. If it’s an event where the stock goes down a lot, hey, you know, we a lot of the gains that’s cashed up effectively just rebalanced, your Tesla holding into cash and Tesla, you know, again, reducing the amount of risky having single security, so certain names with certain, you know, individuals where they have the right, I would say attitude, that they’re truly trying to de risk the security and they’re trying to sell down, you know, 2550 75% over time, and just a tax efficient manner, we’re absolutely able to help those folks. But it’s definitely a name by name basis, rather than broad strokes. The other piece that he’s talking about is our core offering and tail liquidity. And when we get like often he got a ton and I was in his previous life is oh, you know, my portfolio is the s&p 570. I’ll country world. And we would say, well, that’s essentially the same risk. And would you really want to use MSCI All Country World, you know, securities rather than SP securities, if we said that choice is reducing our expected return by over 150 basis points per annum. And you’re giving up a ton of liquidity. And if you hopefully go back through that exercise and say now, the point of having this year is liquidity during drawdown event, and you’re saying there’s s&p 500, I’m willing to accept a little tiny bit of correlation risk between MSCI All Country World and s&p 500. So, you know, those are the kind of like two completely different categories but how we think about our strategies interacting with those portfolios.


Jeff Malec  24:23

So let’s build on the tail risk mitigation strategy. That’s the official name, what’s the flagships official name? Tail? Tail liquidity, so let’s build on tail liquidity. I think of it as a Gamma Delta hedge play. We’ll let you expand on that. But it’s kind of like everyone’s talking about, right the market makers these days and they’re getting all this option flow and they have to delta hedging, and that’s driving flows that’s driving market prices. I somewhat see you guys in that same spot from seeing some of your trades, but you’re choosing to be long In short, the depth. So talk to me a little bit about the different dynamics there of kind of hedgers reacting to where the market goes, and you’re kind of doing what you do and reacting as well to where the market goes, but on purpose so to speak?


Devin Anderson  25:15

Well, I think what I would first say is that the very significant difference between us in the more traditional tail risk approaches is that we are relying on a on a, you know, a Delta position that’s there all the time, right. So there’s a reliable, let’s call a base beta to tail liquidity, that’s, that’s always present. And then we’re managing the amount of convexity of that of that delta, and the amount of convexity that we carry all the time. So that’s a lot different than most of our competitors that are relying on, on changes involve and in or vol, convexity in order to generate returns in releasing significant events. And, you know, it’s just basically our point of view that the correlation between spot and ball, I mean, first of all, is in a completely different regime, that’s not even debatable just looked at the last, the last decade of data. So the idea that you could design a strategy and, and then pretend, and then pretend like you know, what’s going to happen when we had, if we have a 2008 like event, like, you know, we just, we just don’t buy it given almost a decade now of a very different spot ball dynamics. So this, you know, this idea that you can rely on, on vol expansion to provide to provide these tail outcomes, you know, we just think is very, very challenged, right. But not just because of the market microstructure dynamics, but because really what you want, in a program like this, as an asset owner, or, or a professional portfolio manager that has allocated to it is some predictable behavior so that you know, how it’s going to interact with the rest of your portfolio. So we set very clear guideposts about what you should expect in terms of returns from us, given a given a move in the market. And the expectation is the clients can then take that and because it’s in a separate account it generates throws off cash and assets that are immediately fungible and usable, you can go out and rebounce immediately, right. So instead of having an event on the 10th of a month, on the on the 10th day of a month, then you get a statement at the end of the month, saying, Well, this is how much you’re up, right? On the 11th of the month for us, you can take cash in your account, take would take it and go buy some more assets, right? Well rebalance your portfolio or do what you need to do. And that has that long term compounding time and market is a sink, you know, that viewpoint is a significant departure from the allocate, wait for it to expand and then maybe redeem it, style of thinking and modeled. So. And that’s only possible, if we started this whole question around, you know, around delta and kind of managing a convex Delta position. That’s only possible inside of that framework. So we’re, you know, we’re kind of coming at the, the risk mitigating question in a completely different way than most of our peers. And it’s really intended to be a tax aware, portfolio level tool, right. So our goal is to set our goal is if the markets down 10%, you should expect the overlay to give you 5% of returns back, but also you should be ready to deploy that into the asset mix that you’ve that you’ve identified at that time. So it’s, it’s a whole different way of thinking so. So yes, right. It is very delta or, you know, an option speak convexity, gamma focused, that doesn’t really have much to do with kind of the flow, the flow and facilitation world where we’re dealers are facilitating options trades for clients, and then and then instantly hedging the risks. That’s, uh, you know, those flows are byproducts of that facilitation flow. You know, in generally speaking, Jeff, I would, I’d say that, you know, people make way too much of it, you know, having been on on a flow dealing desk for a decade, and, you know, in facilitating some of the largest trades that are out there in the s&p index on our desk. I’m here to tell you that you know, those types of flows generate, let’s call it four to eight handle impacts on the s&p futures, in pretty extreme situations, no one who’s listening to this podcast unless you happen to run a hybrid high frequency trading shop really stands to benefit from those types of very short term dislocations, particularly when you’re focused at the portfolio level, right? Like, yeah, if you, you know, if you’re a high frequency trainer, and you can lean your deltas, and you can provide liquidity into that what might be, you know, 32nd to 15 minute event, maybe, you know, that’s the opportunity, but kind of otherwise people make just far too much of, of the of the dealer flow impacts not I mean, not to say that not to say that they are never important they are, they can be important single stocks that can be important in really extreme situations. But, you know, for the most part, it’s the magicians can’t have of distraction.


Jeff Malec  31:03

Yeah, I think my question is more of your, like, it seems to me, you’re the same as a market maker who’s constantly buying puts from the public, right? Who’s facilitating selling of boats, and you have that same profile? And you’re, I mean, it kind of the mechanisms are the same of how you handle that exposure, the exposure on purpose, in a


Devin Anderson  31:22

way, I mean, we’re reacting to the dislocations presented to us from different players, you know, there’s a, there’s a, there’s a big community of people selling options on the short ends, which does depress the price of options, right. And that’s a big part of our strategy. There’s a big community of insurance that’s buying the middle parts of the curve. That’s an important part of our strategy. So, I mean, there are persistent dislocations that matter, but, you know, these kinds of very short term flows resulting from Delta impact. You know, like I say, just a lot way too much gets made of it.




Zed Francis  31:57

Yeah. And I think, you know, the quick summary is a, the option flows, especially systemized, systematize, option flows have almost no impact on market direction, but they do have significant impact on option pricing. And those are two very, very, you know, different things. I think a lot of people extrapolate that and say, like, oh, the reason why, you know, s&p was up down, whatever today was because of these, you know, predominant option holdings. And that, you know, I would say, as a board sales guy needing to print a note, rather than something that’s natural, but they do obscure pricing of specific options. And that’s the piece that we pay attention to, because no deltas, kind of whatever you want it to be, I mean, we can add future subtract futures, we can make it a long linear product, historically, any product, you know, we’re, we’re harvesting what we think is relative value within the volatility surface. With the main components is Devin said, you know, we think shorter dated stuffs too cheap from all these systematize, you know, options, sellers. And we think mid curve stuff is too expensive from a known quantity of insurance players that are systematized buyers. And we’re extracting a little bit of, you know, what we see as relative value in that surface. But we could, you know, package that expression into any product we want. The point of designing liquidity as we did is we think we have a relative value expression that has a positive expected return. But the marketplace is probably a need for as a means of risk mitigation, rather than the traditional format of just diversified portfolio, bonds, whatever the heck you want to throw in there, probably not going to work really great. So we need to come up with a new way to diversify portfolio. And we think having a negatively correlated asymmetric unfunded overlay is the best way to go ahead and achieve what the market needs. And then the final step is, you know, we don’t want our product to be the driver of the excess returns in your portfolio. Sure, we want to have a positive p&l Over time, that’d be great. But what we want is the reinvestment of our capital that we deliver during drawdown events, to be the excess return driver, the buying the dip, and holding on to those assets for the long haul. I know their unrealized long term gains, because if it was, if all the excess returns were an options in a taxable environment, that’s not very attractive, half of that’s going to the tax man. So we designed this again, foundation, we think we actually have some edge from a relative value standpoint, we believe the marketplace is looking for a new means of diversification with yields, you know, almost 2% in 10s, but you know where they are, and we think we’re providing that as a new fulcrum within their portfolio to achieve better outcomes for diversification. And then finally, how we design we’ll call it the core Delta lien within the portfolio which is totally fungible, you can make whatever we want, but the point of it is we want most of the returns to be from real investment of capital because that’s tax efficient, versus if all the p&l is coming from options. That’s, that’s problematic for taxable investors. So that’s, you know, the waterfall of kind of how we ended up to where we are with liquidity.


Jeff Malec  35:12

Right but it’s up it’s mostly always or to you tell me always Delta short Deltas and long gamma, always in long Vega.


Devin Anderson  35:21

Yeah. No, not always, not always long Vega got,


Zed Francis  35:25

okay. That normally short Vega,


Jeff Malec  35:28

okay. So that that short, Vega is paying for the other two.


Zed Francis  35:35

And, in essence, the short Vega is definitely in there, because we think most folks are overpaying for we’ll call it meaty options, you know, Vega driven options, a shorter dated option, the implied volatility or you know, quote, unquote, Vega is almost meaningless to, you know, factoring into the price of that option, when you start adding in a significant amount of time, you know, maturity, to options than the weight of Vega to the pricing of the option increases. And, and we believe that generally, people are overpaying for the Vega component in the long, mid mid tier, even longer dated options, driven by a lot of systematize flows that, again, are economical for the end user. But ultimately, you know, that’s why we’re leaning on that what we see as a mispricing within the portfolio.


Jeff Malec  36:24

And that systematize you’re saying basically, people don’t want to buy five year leaps, too expensive, too much data, they’ve come into this middle zone, where they think they’re getting value for that downside protection. Yeah.


Devin Anderson  36:37

It’s mostly a regulatory issue for the insurance folks that it’s those are the options they have to buy, because that’s those are the options that give them the regulatory relief that they need. Okay,


Zed Francis  36:48

basically, most of us driven by annuity products, which annuity product is incredibly high fee. So if they’re overpaying for their, you know, regulatory hedge of 25 basis points, who really cares, go go sell the board, six point, you know, front load product, and we’re okay with giving up a little bit of edge on the regulatory hedge.


Jeff Malec  37:09

But you’re basically saying I, alright, I’m a bank, I sold some index linked annuities. And I’m covering if the market goes down more than x is how they annuity set up. So I have to buy those puts in order to protect myself.


Zed Francis  37:23

It’s more unlike well, they want true Vega rather than necessarily anything directional, right, because if you have a 30 year annuity, the biggest risk for the annuity provider is you know, mark to market, you know, path is the problem. So they’re trying to hedge path and the easiest way to hedge path is to own Vega. And historically, they own Vega via variance swap plotter, date variants swaps, but that market has dissipated to almost nothing outside of kind of two year maturities. So they’ve shifted that Vega exposure that they need within that product, both from a risk management but also regulatory side of the house into listed options. And so they’re just trying to replicate, you know, the Vega component of the variance swaps they utilize previously, just now using s&p 500 options.


Jeff Malec  38:12

Why did variant swaps go away? Alberta? Yeah.


Zed Francis  38:17

Well, because banks, the amount of capital they have to carry against the other side, increased astronomically post the financial crisis.


Jeff Malec  38:24

Okay. Um, and speaking of the options, I wanted to touch on both two things, one that delta hedging it’s always seemed to me, how do you get that timing right? Right. If you did it every second the market every tick, the market moves, you get eaten up in costs. And whipsawed if you do it monthly, there’s going to be moves you can’t monetize and can’t take advantage of so how do you thread that needle and get the delta hedging exactly right. Or mostly right.


Zed Francis  38:51

Yeah, yeah, what most there is you can try and get beat long Gamma Scalping, everybody will have a completely different answer of the right way to do it. Because there really isn’t any right answer and, and the truth is, you know, we have we have two components to indicating for us to go ahead and gamma Scout who do that rebalancing. We’ve, we have the we’ll call it the scientific side of it, which is our guard rails, which is a forced rebalance. And that’s if the portfolio is going from short to long. That’s not why we’re here we’re supposed to be negatively correlated, that’s a forced rebalance. And if the portfolio is getting too short, and what we mean by that is if somebody is allocating $10 million to tail liquidity and all the sudden the portfolio short 10 million in one dollars, that’s oversized that’s not why we’re here for that. So force rebalance. So those are set in stone, we’ll call it scientific. Lee driven a rebalance is driven by those guardrails inside of that, you know, it’s called the art that and the art that the main driver is what we see happening to fix strike vol on any given day. So when we see fixed rate fall absolutely collapsed that might afford us a little bit more. We’ll say time for rebalance, we’ll let things drift more towards those guardrails. Rather than trying to chop things up pretty aggressively intraday, when you have a significant move and fixed strike vol higher, that’s probably a moment to go ahead and additionally capture inside of those guardrails. So the art side of things. So, you know, everybody loves things that are formulaic. But if it was formulaic, then it probably wouldn’t have much, much true edge to it. So we have the dual component of product driven rebalancing that, you know, that is hard coded that is a guardrail, along with allowing us the discretion to utilize a little bit of art from what we see intraday to, to hopefully add some value.


Jeff Malec  40:49

And just talk through the how that works for a second. So I’m day one I buy puts I sell futures on Delta neutral, or I buy less futures, and I’m short some deltas. I’m just talk to you how that works. When the market moves down towards your strikes, you become more short, and vice versa.


Zed Francis  41:08

Yeah, so we have we have three, you know, set in stone drivers over guardrails, what is delta, again, can’t be long and can’t be shorter than 100. Deltas, to his long gamma, all long gamma really means as the market falls, we get shorter and shorter and shorter, as the market rallies we get less short, less short, less short. And then we’re always net long put contracts. So there’s no hidden jump risk in there, you know, I October 87 hands and you’re like oops, like I went down too fast. That’s not a thing we’re always net long puts. And so we’re always in a situation even though jump risk scenario that we’re always gonna have improving p&l As the market goes down. So those are, are set in stone guardrails, how we are delivering our expression is basically buying shorter data closer to the money puts, we’re selling, you know, mid dated called six to 12, six to 12 months zone out of the money puts. So buying, buying close to the money short, dated, selling, mid dated out of the money. And again, always net long, goes out a little bit more than we’re shorting. So what this means is when the market rallies, that initial train, most likely is collecting premium, which means at some point in time, during a rally, we actually flipped to Long’s we net collected cash, the market went to infinity, we just we just get that cash, essentially, we collect from day one. So as the market rallies because that expression, you will potentially hit a moment where we’re actually long leading force rebalance decided to care more about is when the market goes down. And so we’re long again, shorter data and closer the money puts, which means as the market falls, the delta of those shorter day puts is accelerating much, much faster than the puts that were short i It’s long gamma. And as the market falls one to 3%, when we’re in a relatively low implied vol environment, that creates a pretty significant shift in delta. And then we can go from short 20 to 100. deltas and a 3% move with these low implied and how we’re expressing our portfolio, which would incur a guardrail induced rebalance if we make it to 100. So


Jeff Malec  43:17

by buying, buying the beta buying stocks or buying futures,


Zed Francis  43:22

right, and so, you know, the way you know, we can rebalance is in our core offering until liquidity, we’re just gonna roll down the butts, you know, the books that we originally bought, you know, we’re calling 30, Delta puts, and now they’re 60, Delta butts. So the 60 points by new 30, Delta puts like, that’s gonna be the normal rebalancing is just, hey, you know, the fulcrum that drove the long convexity within this portfolio and drove the majority of the positive returns as the market fall, just rebalance it. And that’s going to be just moving the strikes lower of those puts, and, you know, nine out of 10 cases.


Jeff Malec  43:55

And so I was confused. So at trade inception, you’re not long. Futures, delta S, SP, y, delta, whatever. It’s just an options position.


Zed Francis  44:04

Yeah, no, we’re, we’re in tail equity. We’re only holding SPX options.


Jeff Malec  44:08

Why is it so hard? What do people get wrong about that? That dynamic?


Zed Francis  44:14

So I think there’s two main categories. And we’ll call it there’s the tail risk, hedge fund, folks. And those folks are only going to get a one to 3% allocation of your total portfolio. And that means that they have to have you know, 1,000% returns during the event, or else it’s just not material, you know, you allocate to what a march 2020 happens, they’re up 100% Like, Oh, that’s great. And then you look at a portfolio level, you’re like, that’s up 2% Why the heck, I’ve been carrying this thing all these years, it didn’t actually provide a benefit.


Jeff Malec  44:50

So they can’t afford to roll it down. They gotta hold it.


Zed Francis  44:53

So those folks you know, we’re not saying that they’re, you know, not brilliant vol guys are looking for the best expression of what they need to provide in that fully funded format that’s never seen at all. But they can’t participate in long gamma, because long gamma just does not have that convexity in that portfolio for those types of events, they need anything that is a, you know, health half delta option, which basically, the only pricing of that option is the Vega component, and it goes with three Delta option and, you know, 10%, draw 20% or 30% draw, and they have 10x returns, they have to participate in a different environment than what we are simply because it’s fully funded.


Jeff Malec  45:34

And you’re not saying a 50 Delta, you’re saying a point five delta y, half of one Delta, yeah,


Zed Francis  45:40

like 2500 genies out, right, exactly. The other side of the house, we there’s, there’s players out there that have, you know, done the legwork on the operational side to be able to provide derivative overlays. And separately managed accounts, even in the you know, we’ll call it traditionally retail setting, there are a handful of folks that have gone through that operational exercise, the issue is long gamma requires a decent amount of attention. And I think, you know, Sina from our interactions, if the market starts moving, there’s gonna be one to five transactions, possibly in a single day. And they these other folks may have built a great operational framework to be able to do execution focus mandates across all these custodians and retail environments, but they’re not very well set up for something that is actively managed. And so most of the products that they create, are things that actually net sell optionality, not by optionality. Because when you sell optionality, usually just freezing is an OK, seat and yeah, being. And so that’s why you know, what you’d probably think of a traditional driven overly manager, especially down the wealth channel, are people doing collars or put spread collars, because their quads I set it and forget it, you know, 612 18 month type transactions and, and, you know, again, these folks did a great job from an operational standpoint to be able to implement these execution based mandates, but they’re definitely not set up to be able to handle something that has a pretty high level of attention and activity down those pipes. And so, you know, we again, think we’re threading that needle of we’re providing the asymmetry, asymmetry at a portfolio level that in theory, a fully funded tail hedge provider, you know, is trying to do we think we’re obviously better at it for because we’re participating in totally different environment. But then we’re also did the legwork from an operational side to be able to do several Manage Accounts, like some of the handful of other folks out there.


Jeff Malec  47:51

And what’s that look like? What’s the worst case scenario for you like down 3%, up 3%, down 3%, some sort of whips, I think


Zed Francis  47:59

that would be an excellent case scenario. For that, happening in the first two and a half weeks of this year is exactly what we love, where as you say, we’re moving and you get to monetize that bounce back, we’re monetizing something every single day. So that’s the fantastic situation where your underlying asset portfolio, we’ll just call it s&p SP like securities is flat to up. But we’ve been able to monetize positions through time just from market movements. And you end up with the you know, stocks up tail hedge and maybe even redeployed some capital somewhere in the middle, you know, you can all three as a win. So anything with the market moving is great, which obviously means the bad environment is when the market does not move. And, you know, I’d say like the worst case scenario, from recent memory of something along those lines, it’s just 2017. So, you know, 2017 had fantastic returns for risk assets. And, you know, we tell folks that are expected delivery is 50%, capture the downside and 20% drag on the upside. And in 2017, you know, what the market mid 20%, you’d be like, Okay, I’m expecting to be down five. And, yeah, we’re probably down more like seven or eight, because it was a incredibly low realized here. Now, you as an end user are still the mid teens, you know, equity return. So that’s nothing to scoff at. But yeah, you’re not gonna be happy about our performance during that environment. Without a doubt.


Jeff Malec  49:26

Wasn’t that the record number of days without a 1% move? Like 70? I can’t remember what it was 6070


Zed Francis  49:34

it was quiet. Yeah.


Jeff Malec  49:37

And I’ve also you mentioned the 20 and 50 iView. US just different bespoke product, but you know, losing 50% of the upside, capturing 100% of the downside. Um, which I guess is same, same thing, right, capturing 50% of the downside, giving up 25% What Scott, I actually ran this when we started talking last year. Just on s&p returns and looked at it as a read, if you just flip the return, multiplied by 100%, multiplied by negative 50%, that was actually was a positive return, which seems a little bit counterintuitive, especially in these years where you’ve had kind of seemed like a runaway train up. That was a positive return, I think it was over the last five years, which speaks to your like, we’re, this isn’t just capturing that it’s absolute return strategies.


Zed Francis  50:28

As long as there’s market movement, our goal is to say be able to find our way to a neutral seat, even when the markets appreciating. But again, the ultimate win for everybody involved is when we have these little bouts of, you know, obviously, 2020 is the perfect, right, a really positive year with a lot of volatility. But you know, other years where we’ve had, you know, five and a couple 10% corrections in there, we’re hopefully doing our job delivering, you know, two and a half to 5%, cash in those five down 10 market environments, and you’re taking that cash and buying stuff. And that stuff over the rest of the year has hopefully appreciated with the rest of the market. So you know that that dollar we gave you is now worth $1.20. And that’s ultimately what’s going to drive the accelerating returns over the long haul is that reinvestment of capital?


Jeff Malec  51:26

What about the flip scenario of like a 17? In reverse, right? If we just crawl over 12 months? That would make a lot of people unhappy on fronts. But what is what does that look like?


Zed Francis  51:39

Yeah, we would do a cane environment. And the reason for that is where I think, again, a big differentiator between ourselves and our peers, is our peers are really set up to only make money in super violent scenarios or market down, you know, 1015 20% plus scenarios. How are strategies designed because we’re, we’ll call it day one, short, 20 deltas, and it’s long gamma. As soon as the market starts falling, we should start creating positive p&l. Now without it out a low realize vol environment is worse than a high realized vol environment. But we’re still going to be achieving positive returns simply because our day when delta is negative and wrong gamma. So it should be accelerating. Even if we’re just going down, you know, 50 basis points every single day, right? We’re still performing your job. Our job is just a lot harder than if we were moving 2% every day.


Jeff Malec  52:33

And then let’s talk from a you mentioned retail somewhere back there, like what is what are you guys seeing from your seats on this huge explosion in retail option volume? How do you think that movie ends? Is it a good thing overall for the space? Is that a bad thing? Is it a bad thing for those retail investors? What are your thoughts?


Devin Anderson  52:54

Yeah, I will. So first of all, most of that activity is concentrated in a handful of single names. And it’s very, very short, dated as in, you know, two weeks or less. So the actual surface impact at the s&p level doesn’t exist, really. So you know, in terms of impact on our strategy, the answer is almost none. Now,


Zed Francis  53:19

there’s little, literally only a two week period, which was at the end of August, beginning of September 2020, where a lot of that retail activity, which is Devin said is buying 135 Day call options. That was during that period. And there’s a lot of doing that in things like Amazon and Apple and Google, which did for a very, very short period effect, implied volatilities and things like the s&p 500 and the NASDAQ. But outside of that little window, what we’ve seen from the we’ll call it new retail activity has had no effect on the index level.


Devin Anderson  53:56

Right now, you know, is is it a good thing for the investing public to be, you know, it to be trafficking in options in this way? I mean, you know, I that’s, that’s a bigger philosophy question. I you know, it’s funny, just today I got a, I got a OCC disclosure booklet, this year’s OCC disclosure booklet from one of the custodians in the mail, you know, it’s an how I don’t it used to be like a notebook calculator sized book. It is now a full eight and a half by 11 approaching binder of disclosures which I don’t believe is a mistake. So, you know, I don’t believe in not letting you know, in stopping people from investing in they want to invest in so long as they have, you know, some reasonable understanding of the modicum of risk that they’re taking. And, you know, as a four You know, registered options principal in a broker dealer. I hope that the person signing the register option principal signing the account opening forms, is doing enough due diligence that says that the person on that form knows the risks that they’re taking. And I’m just gonna kind of leave it at that.


Jeff Malec  55:19

Yeah. But surely that’s Robo stamped at Robin Hood or something right? No way they can send 60 million. Yeah,


Devin Anderson  55:25

it would, it would seem unlikely that they’re, that at that volume, you can perform thoughtful due diligence. But no, that’s for the regulator’s to decide right,


Jeff Malec  55:34

but to me that the actual end investor is going to quickly figure out like, Oh, hold on, this doesn’t make sense. They said, If I buy calls and it goes up, I make money. And they’re going to just keep experiencing these things of like, I bought calls, the stock went up, I didn’t make money, what the heck’s going on? Right? And then they start getting into like, okay, there’s more pieces to this, then stock goes up calls make money. So to me, it’s kind of like self correct, a little bit of, you know, that the Vols got so high, because they’re buying I mean, it worked for a period. But it seems like it’s just going to self correct. Somebody


Zed Francis  56:09

I work with, at legal in general, sent one of the simplest and favorite phrases that I’ve ever heard in my career. And it’s the problem with options as they expire. And I think something as simple as that as what these folks, as you say, might be learning along the way of yes, you know, XYZ company went up 30% over a year, we kept buying five day options. And you might have not participated in that move, because the problem is they expire.


Jeff Malec  56:40

Yeah, or the problem is, it’s already priced. It’s like a game of probabilities, you guys know better, right? Like that options telling you the probability of this event happening. So it has to go greater than that event. Anyway, I think we’re all preaching to the choir there. We talked a bit about it of dealing just in the s&p. It’s kind of the de facto world risk on hedge. But I’ve heard you Zed. Talk about the move away from hedge the move by hedge funds away from CDs, swaps and whatnot. So just dig into that a little bit more of you could have like, why SMP why people may be moving away from other risk, risk choices.


Zed Francis  57:27

That’s all we’ll say this is we’ll throw it in the theoretical camp rather than hard proven that, yeah, but I, you know, a vast majority of large hedge funds, even non macro lines, fundamental hedge funds, tend to have some sort of, we’ll call it teeny put embedded within their consistent exposures. And oftentimes, that teeny put was, you know, credit of some variety, whether it was just linear, you know, CD X, you know, buying, you know, IGC dx that are 28 basis points out of this out a lot of negative carry, and when things get hairy, it goes to 400 over and there’s a lot of convexity in that, whether it’s buying, you know, puts on high yield indices, whether it’s, you know, a hyg and or high yield CDF things along those lines, they utilize credit as their main fulcrum within their portfolio to have that that deep out of the money protection. And again, the two reasons for that are optically it’s cheap, from a carrier perspective. And two, it doesn’t require much maintenance at all, you know, you do cd X, the new contract comes out every six months, and you just go ahead and roll it to the new one, you know, it’s five minutes of work every six months. So it’s pretty easy to go ahead and implement you know, as part of your overall portfolio you know, what finally change and march 2020 This you know, the Fed rather than just buying MBs, CBS treasuries, bills, so on and so forth, we’ll call it government plus securities, they bought you know, IG and even high yield ETFs. And I think folks conviction that those teeny books, if you will, in credit are going to work in the next crisis is at least lessened simply because the Fed has already open the kimono know that they can just buy stuff and stop it from widening and you need you need this stuff to work. You know, like your good old Ackman Persian why they had that Galavan 2020 years they produced 2030 40% portfolio level returns on the CDs and they monetized it and then they bought a bunch of stuff, right? You know, it’s like, the perfect flip because it actually like does work and that’s what you know, they, you know, these hedge funds are hoping to have in there, if you don’t think that the Fed is potentially going to allow credit to widen but you still Want that exposure within your book, you gotta go gotta go down the list risk ladder, and it’s what the Feds very good at doing is forcing people to risk ladders even working on the heavy. So rather than utilizing credit, they’re buying Teenies and the s&p 500. And, you know, we would argue that the last, especially like, call it nine months, your longer data deep out of the money puts are astronomically expensive, considering the realized volatility of what’s taking place the s&p 500. Now the last six, nine months realize volatility is like a 12 and a half, you know, the average is 16. So it’s been very quiet. Along with you know, we’ve had little sneezes here or there, but generally an uptrend market. And yet these deep out of the money puts continue to get more and more expensive from an implied volatility standpoint. So my, my, you know, we’ll call it thesis here is if I was running a $10 billion macro driven hedge fund, and I need some Teenies in my book, and I used to implement it via credit. I’m scared that that’s not going to work next round. So I gotta go up the risk curve equities. And that’s going to be teeny puts in the s&p 500. And then


Jeff Malec  1:01:13

could I argue the Fed next time maybe just steps in and buys s&p 500? And then, right, then the whole cycle starts over, like now, where do I go,


Zed Francis  1:01:21

you gotta buy puts and lever private equity. I just keep going keep going up their risk curve.


Jeff Malec  1:01:28

And to that point, like so if, if all this hedge funds of everyone owns these putts, there’s right 10 years ago, 20 years ago, we wouldn’t be having this conversation, there was just a few groups focused on kind of tail hedging. Is it going to feed on itself? Like, can we not get the cascade down in the big jump down? Because there’s so much protection.




Zed Francis  1:01:49

So given our pretty confident view is flows in our holdings and options market is not going to drive Delta in any significant way. So if ever this can all everybody’s protected, so that, you know, stops the market from falling further. Not really like, like, that’s just a storyline and RV, yeah, really driving changes in market?


Jeff Malec  1:02:14

Well, imagine if you were at a billion dollar fund, right and even larger, $800 billion fund and you’re read monetizing, and going back in and buying, right, it would have an effect, it would be putting a floor under there. So


Zed Francis  1:02:27

force liquidations is a different contract, I would agree that the force limitations can trigger different unwind events for Yeah. But the more important piece, again, is rather than we’ll say folks, overpaying for this deep, deep out of the money, you know, catastrophe insurance and the s&p 500, creating an effect on where the s&p 500 is going, it does in our view, have a significant effect on option pricing, and the option pricing during that set event. And what we mean by that is we actually think that the implied volatility on those options falls when the market falls. And no, folks again, if you’re buying it deep out of the money, put, you know, 12 month five Delta put, the driver of the pricing of that option is not the move. And the Delta, it’s not the move in the stock market, it’s vol expansion. And when we actually think is going to happen is because your quote unquote, overpaying for it today, market goes down 567 percent invol on those options is actually going to contract not expand. And the entire point of owning those expansion of wall is you’re gonna have a move in the market, we’ll call it you know, a moderate drop, I’m sure as Mark goes 50% You know, it’s a totally different story. But, you know, mark down five, seven, maybe even 10% We actually think those options just don’t make any money. And that’s ultimately, you know, the problem when too many folks are utilizing the same instrument.


Jeff Malec  1:03:59

And we I think we saw that and said October 20 right with all the election vol bid up and everything and then the market did go down. But it was like, it was a nothing burger in terms of vol.


Zed Francis  1:04:11

Now you said December 2018. Fixed reg fall came in during, you know, a reasonably choppy and downward month, you know, you saw it, as you said around the election. Now, that was an event that roll off. So a little bit different than just natural drawdown. But even saw it, you know, September of this year, it was only a, you know, less than 5% move in the s&p 500. But vol came in hard during the 5%, you know, down move in markets. So, you know, we obviously this is embedded within our strategy. This is why we’re saying we’re short Vega, you know, nine out of 10 times is we do think this is mispriced and we think we know why. And we actually think that it does contract during the down movement. But you know, there’s always when there’s too many folks doing the same thing in the event that they’re all supposed to unwind happens at the end, they all got to unwind at the same time might affect the pricing of that.



Jeff Malec  1:05:06

And let’s talk about the flip side of that of right people say, oh, there’s not enough institutional selling right now for there to be a big crash. Right? There’s not enough people who will puke and start buying their way out of those short options. Where do you guys see us on the short, institutional vol selling curve? If I would say like, early 18? Was the top perhaps or tell me the history of it? If you know,


Zed Francis  1:05:32

I go down? I mean,


Devin Anderson  1:05:34

yeah, I mean, it’s not either, I’ll let Zed do most of the talking here. But the answer is, the biggest players in this space come from retail, and private banks. And they are undeterred. So for the most part, this exposure is still out there kind of very close to maximum levels. And if you think about how a private bank works, they go out and they go out and sign up hundreds of clients or 1000s of clients for these strategies. Individually, right? That’s a completely different dynamic than if you are managing a short vol allocation at a pension fund or any type of commingle vehicle where there’s a portfolio manager and a much more, a much more prescient agency problem associated with that manager. Right. So, so like, yeah, they might get some redemptions. But each, essentially, each account has signed up to the risks individually. So, you know, that’s very the short vol trade is very, very, very durable. At this point, and, you know, we believe continues to create this, you know, this, this pressure on the front end, you know, to the point that we can to the point that we can use it to monetize it, and it would take, it would take a really, really significant move to shake people out of that, in our view.


Zed Francis  1:07:05

Yeah. And I think it’s actually different, rather than just getting, you know, was having losses on a large drawdown, I actually don’t think is the function that causes folks to not jump back into the short vol trade afterwards. It’s as simple as yields going up, right? Yeah, it’s the main driver of a lot of this is just we’ll call it FOMO yield replacement type strategy. And so, you know, if, if credit is only you know, IG credits, only paying two and a half percent and high yield, you know, sub five, and real returns negative, everybody’s hunting for yield, which means everybody’s going to sell options, and they’re just going to embed them in a bunch of different products that don’t say options, but they’re selling options. Now, you know, we get we get tends to, you know, 6%, maybe they slow that down, they have other choices to go ahead and find yield. But in this, you know, low yielding environment. It’s, it’s, it’s fully there and probably accelerating, you know, beyond where it’s been. And we just need, we just need to look to the folks in Asia for an example. Like it’s persistent options selling world for 20 years. And it doesn’t matter what the market does. They’re always there because they have to find distributable returns have been single digits, and there’s no other choice.


Jeff Malec  1:08:26

I want to get your thoughts on some different vol strategies. We’ve had some fun and some of Chicago’s finer establishments talking through these. Um, let’s start with what we’ve already covered. You just do a line on it. So that Taleb style deep out of the money option put buying, I think you’ve covered it, give us just a last one liner on it.


Devin Anderson  1:08:49

Yeah, gonna be tough for that to work in this in this fall regime. I mean, as we just talked about fall, fall, fall doesn’t necessarily go up when the market goes down. 10% anymore, right? For the first time anyway, more


Zed Francis  1:09:02

simple, huge monetization problem.


Jeff Malec  1:09:05

Huge man loan. These sombrero traders, Jason buck, and I like to call it which kind of short the belly long the wings. What are what are your thoughts on that trade? You guys have a little bit of that concept and you’re stuck, right?


Zed Francis  1:09:20

Well, the, that version of how you describe it is the ultimate marketer’s dream, which means it could ever make money, right? It’s the old, hey, produce 2% a month and limited risk of I’ll just pick 2%. And people in their brains instantly go two times 1224 with a max risk of two. This sounds amazing. Except for you know, market slowly moves down as a newcomer on December 2018. And those strategies was 16% Your risk wasn’t too. So you know, anything that’s really, really easy to sell, probably has some issues.


Jeff Malec  1:09:57

Right? That’s been working for most of the last three Few years, right? Because if you have a sharp, sharp kickbacks, it works. If not, right or evolved goes it has to really go, which is what we’ve seen. touched on this a little bit, but the JPMorgan, hedged equity, buffered notes, all the collar stuff, just your overall thoughts on how those are all structured.


Zed Francis  1:10:20

If if you want point seven beta for 20x fees, go for it.


Devin Anderson  1:10:27

Right. I mean, it and a lot of taxes, right? I mean, just, you know, the problem with this whole, there’s two big problems with this entire camp of products, which is first getting in and out of them is a tax of it. Right? And, and it seems like, you know, I mean, it sounds surprising, a lot of the folks in the product management world here, like came from institutional thinking, and so like, this just doesn’t get on the radar. But like the answer, the second problem is that the risks are very dynamic, depending on spot, right. So to the average, or to the average advisor buying one of these buffered products, I just refuse to believe that they actually understand the risk that they’re taking, I believe that they understand that there’s a color in there, and that you three days before those options expire, they know what the profile is, but they don’t know what the risk is on any other day. And so the people who make these products respond by creating more series of them, which only makes the tax problem worse. Yeah, right. So there’s no like, there’s no squaring the circle of path dependent risk, and really bad tax profile in the, in the, you know, buffered product space, you know, no matter the wrapper, right, whether it’s a structure No, you buy from a bank, or an ETF or ETF, whatever it is, right. Like, there’s no squaring that circle of difficult to no risk if you’re not a professional and in very difficult tax situation to enter and exit, you know, what, what you what you This is why we exist, right? What you prefer is to actually put the options that make sense directly in your account, and not disturb your asset allocation.


Jeff Malec  1:12:15

Right. And you that was there in the hedged Equity Program, the, the calls are almost at, at in them, right? They’re almost at the money now. Right? So they buy all the puts than they had to sell the calls to fund the puts. And it’s, it was like, 10% of the money though, five, 8%. Now five, and it just keeps coming down. It’s like, what there’s no upside and you’re calling you know, you’re taking the first 10% of loss. Doesn’t make any sense. Implied verse realize volare type strategies.


Devin Anderson  1:12:45

Yeah, I mean, so here, it’s difficult to paint with a wide brush. I mean, there’s people that there are professionals that really know what they’re doing. Okay. And there are good products out there. If if you are, if you can go and invest in, you know, what I would call the top tier of hedge funds in the space with people that have real pedigrees and really know what they’re doing. Okay. But there’s not many of them. And we are talking about like writing real hedge fund allocation checks. I think that what disturbs me a little bit is that there are, there’s a tear right below that where there’s like a lot of magician canta hand waving going on, about relative value and options world and the VIX. And when I for the most part, you know, outside of the handful of people that I think really know how to run a hedge fund and a relative value vol strategy. You know, it’s, it’s kind of scary. I mean, really, right. Like, so, you know, there’s a, there’s a big, big dispersion of quality here. And I, I do think that there is good stuff. And I think that it’s there mostly asset, excuse me, absolute return strategies that, you know, they don’t belong on the Alpha side of your portfolio, not the risk mitigating side of the portfolio. And I, you know, and I do think that there’s a lot of landmines you can step on, depending on the manager that we’re talking


Jeff Malec  1:14:15

about, which is B, because for your view, there’s no signal there and realize for some flight, it just is what it is for whatever period.


Devin Anderson  1:14:23

I think that I think that the sophistication required to really understand the flows of wire those dislocations come from, I mean, like there’s a bit of a bit of, of, of this in what we do in the specific security selection and understanding how much edge we actually have to work with when we select the options that we do for the risk mitigating strategy. But there’s a relatively high level of, of sophistication that you have to have in order to assess these things to size them correctly. And then to do the risk management and you know, base on, you know, almost all of the commentary here. You know, I don’t I don’t believe there’s a ton of people with those skills. So there’s good stuff here. But you got to be careful. Yeah. The key


Zed Francis  1:15:11

word to be careful as anybody that’s pitching something in this category that focuses on the word yield, you hear the world yield run.


Jeff Malec  1:15:22

Right? If we’re generating a yield by selling high implied versus realizing, as Devin


Zed Francis  1:15:27

said, it’s an absolute return type of allocation. Yield is the easiest means to sell, just selling the concept of selling options.


Jeff Malec  1:15:39

And we touched on it earlier, but the and you just touch on it now. But pure flow traders, all that matters is gamma and delta hedging, and where the market makers are at. Thoughts on on that type of strategy?


Devin Anderson  1:15:52

Yeah, I mean, at any reasonable size, I don’t even think that’s a thing. Right? I mean, outside of that, I don’t I don’t think there’s people out there dividing the net positioning, I mean, just just give me a break. Right. Like, you know, I think that if you’re close enough to the flow, if you are a large automated market maker, you do have some information. You do have there, they’re the only real people in the market able to take advantage of, you know, let’s call it extremely, extremely temporal, you know, sub minute to small number of minute type dislocations. I do think that’s a thing. But I also I mean, I should also say, I think that there are talented prop traders that have strategies that they can’t make bigger than 10 to $40 million. Right. Like, yeah, I think there’s that too, and that’s successful, because it’s small. But if we’re talking about product that you’re going to go out and buy. I’m, I’m highly skeptical that, that that there are there are independent folks that can divine the net positioning of dealers and somehow profit from that.


Jeff Malec  1:17:01

Well, but that is a little counter to like JP Morgan hedged equity and their size, and you know, their strengths. And, you know, in theory where the hedging needs to be,


Devin Anderson  1:17:12

yeah, okay, but great, like so. So like you identified a half to six handle dancer, the s&p that, were that I mean,


Zed Francis  1:17:25

they want to bring up Jeff, like this December 31. Thank you, JP Morgan waited literally until the 31st to roll the entire hedge equity products. And obviously, those are all deep in the money calls. Right. And so essentially, on that roll, they’re buying 10 plus billion deltas, and they’re all gonna do it in one print. And everybody in the world knew is coming, and we’re gonna be able to take advantage of it, and move the market 00. So you’re like, everyone on vacation? I was like, I shouldn’t be the perfect setup. Nothing. So it’s a fun story.




Jeff Malec  1:18:07

What why is that? Are they? Are they crossing it with someone who has 10 billion to sell? Or is it just the markets that deep and liquid it just ate it up? Why is it


Zed Francis  1:18:17

it’s a mix of the DESA they’re working with has the appropriate time to prepare to some extent along with just it’s not a big enough dollar amount to move things and if JPMorgan hedge equity product isn’t moving, you know, s&p 500 futures there’s not much else out there that can but it’s fun. It’s fun for people that use Twitter, but it’s not an actual event for making money.


Jeff Malec  1:18:42

Right? Because what is it 18 billion or something into what’s the total market cap 5 trillion or something we’ll finish up want your hottest take we’re talking Charmouth style foot in your mouth sound bites. If you have any refugees to insult or anything, put know something in market related your niche related. Nobody else is talking about something everyone is talking about but wrong. Or as I told you guys in email, something like Tom Brady sucks, or the Beatles are overrated, which is


Devin Anderson  1:19:21

Oh, Beatles are overrated. Let’s


Zed Francis  1:19:25

nice. This, this isn’t gonna be as hot as No, no, like de Charmouth. But I think I think my hot take is that Congress is going to greatly reduce the Fed’s tools over the next three years. And the reason for that is, you know, in theory, everybody likes the what the Fed has done if your congressional you know, Representative because it’s all kicking the can down the road, which normally is good for you to you know, win your next election. But the difference here is inflation and inflation is trickled into everyday conversation. And they’re going to be strung up by Congress, because they got to point a finger at somebody, that’s not them. And the best way to eventually execute that as a create, you know, congressional committee to review the Feds tools, and reduce their flexibility in using those tools. So I would say that’s my, my close Oh,


Jeff Malec  1:20:30

that means like, no more buying junk bond ETFs,


Zed Francis  1:20:33

I think they the path, they will go as yes, they constrict the list of securities they can buy. And just because they have so much fun with that adds some sort of debt ceiling type of effect, to what their total amount they’re allotted to buy. So that’s gonna be my hot take is the Fed will actually have reduced influence and over the next three years in all of our lives, because Congress is going to take a lot of their powers away, because they got appointed somebody.





Jeff Malec  1:21:03

I do like that is a good one, because everyone else is saying like, no, they’re just gonna keep expanding powers and buying outright stocks, they’re gonna own half of Apple’s market cap, yada, yada. Yeah. I love it. Alright, Devin. Yeah, I mean,


Devin Anderson  1:21:19

I go back to, uh, to kind of my opening comments about the founding of the firm, I think a lot of the derivative managers face just as getting it wrong in that tax matters, you can’t, you know, you can’t bring your institutional thinking into the family office and retail world, you’ve got to bite the bullet and, and make the investments to be able to manage derivative overlays. In an in an unfunded multi custodial environment, it’s really tough. And you got to mean you got to make the investment in order to do it. But once you’ve taken once you swallow that pill, the opportunity set for the manager is huge for the investor is huge. And if you use these tools correctly, you actually do stand to get the full benefits of derivative investing rather than kind of small chunks that you know, the managers essentially be able to offer to you.


Jeff Malec  1:22:15

I love it. And I got to do it. Shout out and just ask you one question about your semi pro shooter. You do petitions? I mean, what does that look like you’re shooting clays or discs are the little targets like in the biathlon in the Olympics.


Devin Anderson  1:22:32

Yeah. So my particular version of the game is not a is not an Olympic sport in the Olympics, that if you’re used to seeing things like bunker trap, and international Skeet, those are what we call fixed field games, where the targets are the same every time and the discipline that I concentrate on called sporting, clays, and fit. And then there’s some related sporting clays disciplines, we’re looking at the targets for the first time, right before you shoot them. So you know, ranges are like, let’s call it 10 to 60 yards, usually in pairs, and kind of any, any trajectory and speed that the people can get to come out of a machine. And the complexity is super high, because you’ve got to be able to look at it, select the technique, make a plan, and then kind of have the confidence to be able to pull it off. It’s you know, it’s an endlessly fascinating, you know, difficult hot, really, really difficult game. That’s, you know, too exciting. And I’ve been successful with


Jeff Malec  1:23:32

what are the top guys doing, like 80% 90% hit rate,


Devin Anderson  1:23:37

scores are far less standard due to the variable difficulty of the game. I mean, even as complex as the game has become, people are very, very good. So, you know, it used to be in sporting clays 15 years ago that you could win the nationals with a, you know, a low 90s type score. You know, now we’re talking about needing two out of 300 targets you probably can miss eight. Well, so yeah, so we’re talking we’re talking really high 90s averages to be able to win consistently. At a regional and national level. It’s, it’s very, very competitive. In ideally, there’s no money in it either. So after, after you spend your life getting good at this, you don’t really win anything.


Jeff Malec  1:24:30

You get a little pat on the back, maybe a plaque.


Devin Anderson  1:24:32

It’s entirely about mental discipline and focus and being able to control yourself well enough to execute.


Jeff Malec  1:24:39

That’s one of my favorite Olympic Winter Olympic events that biathlon where they’re breathing. to slow it down, hit those targets. And Zed baby on baby number two, is it on the way, baby number two, baby number two on the way good luck with that. I tell all expecting parents it’s a lot of fun 40% of the time.


Zed Francis  1:24:58

That’s right to go full circle C and Zed so first one’s the data and the second one’s also a girl. So it’s ending at four.


Jeff Malec  1:25:08

Well, you never know said 530. Feminine


Devin Anderson  1:25:12

said, I don’t.


Zed Francis  1:25:15

I don’t necessarily think it’s a masculine


Devin Anderson  1:25:19

feminine derivative.


Jeff Malec  1:25:20

Deena. Um, alright guys, thanks. Next time we got to do this in person in Chicago Devin, you got to come in, but uh, we’ll talk to you soon. Good luck with everything. And thanks for being here.

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