50 Charts showing the Current State of Volatility, with Jeremie Holdom and Colin Suvak of LongTail Alpha

This episode of The Derivative discusses the current state of Volatility – and how to use those measurements in diversifying investment strategies with Jeremie Holdom and Colin Suvak of LongTail Alpha, an investment firm focused on tail risk hedging. The guests share insights into their work, analyzing volatility across asset classes and constructing customized hedging solutions for institutional investors.

Jeff, Jeremie, and Colin do something a little bit different in this pod – walking through several graphics and charts to discuss notable stats and trends in implied and realized volatility pricing in not just equities, but across various asset classes including energies, Gold, interest rates, and more. Check the episode out on YouTube if you’re wanting to see their beautiful charts. They also explore topics like the influx of options selling and its implications. They dive into topics like interest rate movements, inflation effects, fixed income-equity correlation shifts, and how these influence positioning across strategies like tail hedging and trend following.

Learn about LongTail’s customized approach to constructing hedging solutions around tail hedging costs and frameworks like generalized optionality and how the firm evaluates basis risk. This discussion also covers challenges measuring counterparty risk and the interplay between explicit and implicit hedging strategies. Sit back and look at how professionals interpret shifting market dynamics and construct diversified portfolios using alternative risk mitigation approaches. SEND IT!



From the episode:

Taming the tails with LongTail Alpha’s Vineer Bhansali on The Derivative

LongTail Alpha Whitepaper: Option Total Return and Active Option Portfolio Management


Check out the complete Transcript from this week’s podcast below:

50 Charts showing the Current State of Volatility, with Jeremie Holdom and Colin Suvak of LongTail Alpha


Jeff Malec  00:06

Welcome to the derivative by RCM 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. Hello, there we are back had a bit of an unintended delay there for a couple of weeks couldn’t get the guests Spring Break schedules to line up. But we’re back and we’re doing something a little bit different. In this episode. We work with the folks over at longtail alpha to implement tail risk hedging strategies for some clients. And they had some cool looking ball charts in their latest client presentation a few weeks ago that I was on the call. So I said hey, let’s get those on the pod. And get some of the longtail pros to come talk through what they’re seeing and what the current state of all is. So what followed here it’s great combo with Jeremie Holdom and Colin Suvak of LongTail Alpha, where we indeed looked at the charts but also talked quite a bit about tail protection, structuring hedges zero DTE and more. So listen on. But if you also want to see the charts on the podcast, head on over to our YouTube channel youtube.com/@TheDerivativebyRCMAlternatives. Not sure if we could have gotten a longer name that that’s youtube.com/@, thederivativebyRCMalternatives, all those letters. This episode is brought to you by that RCM YouTube channel where we host the podcast weekly, but also have some other videos and around our work in China and whatnot. And if you’re into Volland volatility hit the Playlist button on the channel and you can see all our ballparks over the years in the VIX volatility playlist. And now back to the show. All right, everyone, we are here with Colin Suvak and Jeremy Holdom. Of LongTail Alpha. How are you guys?


Colin Suvak  02:02

Very good. Thanks for having us. Yeah,


Jeff Malec  02:03

no worries and tell us where you’re at in beautiful Southern California.


Colin Suvak  02:09

That’s right. That’s me. I’m in our office today. Oh, that’s not very beautiful. It’s actually quite great. You can barely see even a mile outside on Jeremy, where you are if it’s a little bit nicer, hopefully. Well, I’m


Jeremie Holdom  02:19

in Toronto, Canada on the east coast here and it’s lovely summer day. Not as nice as Newport, but almost there.


Jeff Malec  02:27

Are you in Toronto all the time. Jeremy?


Jeremie Holdom  02:30

Most of the time. Yep. I


Jeff Malec  02:32

didn’t know that. Sorry. All right. Hey, we’re learning new stuff on the pod already. But Colin, the main office is there in Newport Beach. Right.


Colin Suvak  02:38

Yeah, exactly. Right. Exactly. Right. A couple miles from the beach here. So we can sort of see down to to the harbor, as I say that today. Not great. So I don’t know if I should share any images. I guess. It’s not doing any favors.


Jeff Malec  02:51

And how did things end up there? Because veneer had been working down that way.


Colin Suvak  02:56

Exactly. Right. Exactly. Right. Yeah. He was as many of us are not He was previously at Pimco, which is sort of just across the street from us. He’s kind of been in around the area, I think, for something like 20 years. So I think it sort of felt like a natural fit for him to kind of stay here.


Jeremie Holdom  03:12

There’s a story of him, he was being recruited in Chicago. And he kind of got the pitch and everything and he looked outside and it was raining. He’s like, Nah, not doing that. No, I think he’s California native for life.


Jeff Malec  03:28

And then you guys could have a little cost of living battle, right? Like, you would think off the top of my head, Newport Beach hire, but Toronto is climbing the charts. Right. Isn’t there a bit of a housing issue and in Toronto?


Jeremie Holdom  03:42

That’s right. Yeah. housing issue, probably. I think it’s expensive in Newport as well. So yeah, there’s a good battle.


Jeff Malec  03:49

Who do we give the win to? Newport?


Jeremie Holdom  03:51

I think Newport. Yep. Yes.


Jeff Malec  03:56

So I’ll tell people if you haven’t listened yet, we’ll put it in the show notes. We did a pod with longtail alphas founder veneer Bhansali two years ago ish. So we’ll put a link to that and go here all the good background from veneer. But Colin and Jeremy are here in the weeds every day and had a nice little deck they put out for me the other day on the kind of state of ball. So we want to go through that. But first, let’s get into your guy’s background and tie it in with the firm background. Who wants to jump on that grenade first? I’ll


Jeremie Holdom  04:33

jump on the grenade. So yeah, as you mentioned, we’re both in the weeds. And it’s nice for us to do a little podcast to see everything in a fresh perspective. You know, stick our head exam but just a recap on longtail so we’re our focus is diversifying strategies and it was founded by our founder veneer Bhansali in about 2015. He’s a market veteran and derivatives tail risk hedging Risk Mitigation etc. has several books on those topics, his career background at Salomon Brothers, Credit Suisse, etc. Before starting longtail alpha, he was a managing director at PIMCO. And our core strategies include option overlays. So tail risk hedging on the left side, right tail hedging for market melt ups, strategies like trend following where we consider that implicit optionality. And then strategies that kind of combine all of these ingredients, and best practices of risk management. So the overarching theme of what Colin I work on every day is generalized optionality and being along with the tails or long ball basically. And a little bit about me. So I’m the Director of Risk Management at long tail and head of research. Did my math undergrad at University of Toronto, Canada, worked at large Canadian pension fund before doing my master’s in finance at Princeton. When I finished that I wanted to go work for a small firm. And I contacted veneer at the time, the conversation basically went like he said, Don’t be silly. Don’t do this go work at a more reputable firm. And I kept on harassing and basically, and I’m very fortunate that I did that. Because it’s been great helping build the firm from the bottom up to where we are today. And we’ve maintained our focus on diversifying strategies over the last eight years. And we built a great team, including Colin.


Jeff Malec  06:34

Awesome. All right, Colin, your turn. I got some questions. I’m going to come back to you, Jeremy. But we’ll let Colin weigh in again. Sounds


Colin Suvak  06:40

good. Well, I’ll be relatively brief then. So my name is Colin, everybody. I am actually sort of previously from kind of a more like classic value background, my dad worked at GMO. And as a manager, sort of based in Boston, from like the mid to late 90s, to sort of the mid or late 2000s. So sort of during the heyday of value in particular. And when I started my career actually started at an allocator and OCIO firm, based in Charlottesville, Virginia, so opposite coast investor. And really when I came to sort of appreciate strategies, like the ones we operate here, and just risk mitigation in general, as we were looking at trend following during the time when I was an investor, and I was kind of the, among others, of course, leading that effort to sort of diversify the portfolio to a certain degree. So I sort of fell into all these different strategies that I think I sort of had previously never even considered. And after a couple of years there, I decided I wanted to try something new. I went back to grad school, like Jeremy did a Masters of finance at MIT, and my thesis advisor, they’re new, and you’re very, very well, and so connected us. And I just immediately hit it off with him in the team. And so I ended up joining about a year ago now, so relatively newer to the firm than Jeremy. But as I say, it’s kind of been a nice transition from what has definitely been a background of sort of more classic value investing for me.


Jeff Malec  07:57

So your stock guy from the stock town in Boston?


Colin Suvak  08:01

Yes, exactly. Right.


Jeff Malec  08:03

They’re converting I think there’s some more more alt shops, more stuff going on in Boston these days. So Jeremy, do you think do you mentioned just popped out to me one generalized optionality? What do you mean by that? Any either of you can take that if you want to, but


Jeremie Holdom  08:24

yes, so everything we do, we’re trying to view through the lens of optionality. And obviously, explicit optionality is the direct purchases of options where you have a net premium in flow. And there’s a slider between reliability and cost, and something that’s less reliable, but will cost less. And so on the far right, on the far left side of the slider, if you spend DirectX premium on an option, you have a guaranteed payoff to the underlying reference index. But if you want to try and reduce that cost, you have to take some sort of basis risk. And so as you move along that spectrum, you can move towards other strategies like trend following, which we would call implicit optionality. Because you are basically replicating straddles, you’re trying to bet on realize ball expanding much more than what it currently is today. And then you can move on to things that we call structural optionality, which is more global macro type trades where the payoffs look like option like in nature. So we’re trying to put everything through the view of optionality and that’s why we call it generalized optionality.


Jeff Malec  09:42

And I usually think of that more as like a pyramid or three dimensional right. So you have convexity as one of those pillars do on a slider, right? Because you can take a lot of basis risk and not have a lot of convexity or you have more convexity to do you guys view it as a way you might have even more than three dimensions, but


Jeremie Holdom  10:01

absolutely, I mean, actually, so you can think about the slider across strategies, you know, broadly. But then it also definitely applies inside of options within option trading. So if you have a reference option that you have as your benchmark, you can slide along the spectrum. So you can work from the direct hedge, which will cost you a certain amount of premium, but it’s going to be a guaranteed payoff against the market following let’s say, if it’s the s&p 500, your direct hedge would be a put like 10% on the money put, right? And you can move to something that’s more like soft indirects, where you’re on the same s&p 500 surface. But now you’re allowed to move across all the different tenors and muddiness to try and beat that direct edge, you’re not going to have the same type of payoff. So you’re taking a risk basis risk. And then lastly, and you know, there’s a trade off with convexity. But then you can move on to the highest order of basis risk, which is moving to different asset classes, where now you’re introducing a new element of basis risk, which is correlation, or what is the expectation of your new market paying off, given that the the main one that you’re trying to hedge pays off?


Jeff Malec  11:15

And Colin, bring it back to you? So what attracted you? And are you as you’re talking to clients? Are they getting risk mitigation? Like what is? What is the appetite? Both before you got into this? And now that you’ve been into it? Are people getting it more than they used to? Or is it still a battle to even explain trend following much less complex option strategies?


Colin Suvak  11:37

Yeah, that’s a very good question. I would say it’s bifurcated in the allocator. community. So on the one hand, I think this is just my experience, I’m sort of in an endowment, so I can speak to that maybe the most, I think those sorts of places are still coming around to risk mitigation diversifying strategy. And really, to your point about, you know, are they accepting of trend following? I would say they’re coming around to it, but not fully, just yet. Certainly, when you have great years of trend, falling performance, 20 going to obviously being one of them, when more traditional assets, like stocks and bonds sort of didn’t do well, that clearly helps the situation. But what doesn’t help is this, you know, long 2010 period where trend kind of didn’t really do that much. So I think that’s sort of in the back of allocators minds. I think the next frontier and maybe pensions, and others are sort of exploring this to a greater degree than endowments, at least at this stage is kind of, you know, more complex strategies. So explicit tail risk hedging, global macro, but with a sort of more risk mitigation bent, etc. I think these are things that are sort of on the up, if if I would say from my observation, and


Jeff Malec  12:42

but do you feel there’s more? Right, okay, yeah, then you have to explain the basis risk. And not only theoretically, but then after the fact, you’re going to be like, okay, X happened, we actually had coverage and why and you didn’t get as much pop as he wanted to, but stick with it. Because next time, right, do you? That’s, that’s the danger there, of course, right? Of


Colin Suvak  13:02

course, I completely agree. And I think what we would say in response is to say, well, it’s probably best to have a kind of a diversified source of diversification, even explicit tail risk hedging, it’s, of course, going to pay off sort of programmatically, when you hit, you know, for example, your strike price, or your 20% of the money, when you hit that, obviously, it’s going to pay off. But as Jeremy was kind of alluding to different options will pay off in different scenarios. And I don’t want to sort of jump the gun too much, because I know we’re gonna kind of go to those sorts of questions later on. But for example, shorter dated options kind of didn’t really pay off during, for example, the popping of the.com. Bubble. So the point here is to illustrate that even with an explicit tail risk, hedging mandate, it’s still the case, it’s probably good to have some amount of diversification within that. And so likewise, that analogy can obviously be extended to have diversification among your diversification strategies, making it increasingly likely that you’re going to have that payoff that you’re talking about. And you don’t have to have, as you say, sort of a tough conversation with clients. You know, why did my Why did my risk mitigation strategy not risk mitigating for lack of a better description? Yeah.


Jeff Malec  14:01

And I’m forgetting his last name, but Jason Makita, he was formulate Makita. And he had a nice construct, right for that of the trend followers are, or the Option trades are kind of the first responders in this emergency. The trend following is the longer term responder. Exactly. Yeah,


Jeremie Holdom  14:20

I mean, to your point, the I think the language has shifted slightly, you know, you’re starting to see institutional consultants speak this language a little bit, no diversifiers risk mitigation buckets. So there’s a slow trend, it’s not very strong yet. There’s still a long ways to go. Which blows my


Jeff Malec  14:39

mind because I’ve been doing this 20 years, and we’ve been talking to people about it for 20 years, who’ve been super excited about including endowments and institutional money. But right I guess I’m blinded, right? I’m having so many of those conversations, I’m blinded to all the other stock focus, or just global asset focus, folks who say like, why do I need this and just finish up that subject on in the endowment model that you’ve seen. They feel like they’re diversified, because they have, using a blunt example like foreign equities value growth, right, their field that is diversified enough? Yeah,


Colin Suvak  15:15

I would say. So it’s also been a combination of that. And the fact that privates have done so well, and as we know, you know, that mark to market effect. For me, it’s personally kind of a feature there, I think it probably is, you know, dampening the long run effect of returns, because there seems to be some almost like perverse benefit of having no marks on the portfolio. And so you know, those two things when you when you have an endowment, I think the average endowment, I would say, certainly for larger institutions, larger colleges, is at least 30 to 40% privates today, that is obviously going to have, you know, significant volatility dampening effect on the portfolio. So I know, that’s sort of not a novel comment, others have written a lot more extensively about this. But I think that and as you say, just being diversified across countries and, and other, you know, equity, like asset classes had been pretty sufficient for the last 10 to 15 years for about two months. And frankly, it’s paid off as well. Just given the state of the markets.


Jeff Malec  16:06

The funny thing about the dampening of the private equity volatility is now it’s out in the right, everyone’s talking about I think everyone knew, but now everyone’s talking about it on both sides. Like the investors are admitting like, yeah, that’s why we invest in this stuff. It’s we’d like that effect. Don’t you care? If it’s actually down? What it’s not really? Right. If we don’t have to put it in there, we don’t care, but in place, and that is if it comes back? Correct. So I’m going off kilter a little here, but have you guys done anything? And had any conversations with people like, how do I hedge that private risk? Is it and have


Jeremie Holdom  16:41

we have and it’s very difficult, the tracking error is very high between privates and publics. And so it really is a more nuanced conversation. If you feel like you are going to be a forced seller of your privates, you almost have to hedge using public’s and you have to take that basis risk. Otherwise, there’s really not much you can do you kind of just have to hold on to it.


Jeff Malec  17:09

Because no one to me, simple would be get some market on like a some swap where if the deal goes wrong, you get paid out or something like that. But you’d probably get killed on the bid ask on that. Yeah. Anything else on the firm wide approach? And how you guys are handling this?


Jeremie Holdom  17:32

Let’s know. I mean, I think yeah, I think we’ve covered most of it. So you know, we’re starting to see a slow trend towards something you’ve noticed as well towards diversifying strategies. We loved your new white papers, you know, it’s very similar to what we have, okay, for, like Colin mentioned, just a diversified approach amongst your different diversify fires. And then within tail risk hedging, which is just one of the strategies we offer, there’s also a basis risk mandate. So tail risk hedging, in our view, should be thought of as a very customized approach to hedge the overall portfolio. And so you should have the choice to how much basis risk you want. Because like you said, if you’re uncomfortable with that scenario, where your underlying portfolio does poorly, and there’s too much basis risk in the hedge, and it doesn’t perform well, then you need to dampen that, that basis risk amount. And that’s going to cost explicitly more. But those are the trade offs that you have to have. And I think we’re a leader at


Jeff Malec  18:35

  1. Talk to me say I have a right I have tons of NASDAQ exposure, I’ve run up the AI, boom, everything’s roses on my portfolio, past couple weeks with standing, right and like, hey, but do I would you guys hedge that in the s&p, and size it up to kind of equal NASDAQ or in the NASDAQ exam,


Jeremie Holdom  18:57

you will start you will start as your direct edge on the NASDAQ. Now, it’s easier to start on s&p as your direct edge because the most global and liquid or sorry, it’s the most liquid options market. across all the different options market out there, NASDAQ is pretty high, but it’s surprisingly not as high as people would think in terms of liquidity. But you would start there with the NASDAQ as your direct hedge. And then following the framework, you would move across either within the NASDAQ surface depending on the basis risk guidelines, and then outside of that surplus to the other equities within us maybe other equities globally, and then you would start to make the leap across asset classes.


Jeff Malec  19:39

And who’s probably that’s the wrong question. But how did it how do you guys scale with REITs? Sounds like you’re saying we’re super customized. Each mandate is different, has different wants and needs for their bases rows for their exposure, and you’re creating a custom solution for each of those mandates. Like that’s it. Is that correct?


Jeremie Holdom  19:59

Yeah, so that’s that’s the main business and tail risk hedging. And it’s a very customized hands on approach. And because of that a lot of our clients have appreciated the nuances and tail risk hedging, because it’s difficult, especially when you have to select between reliability and costs. You do need to really customize it to your underlying exposure, a lot of pensions, they are institution investors, they have generally similar tilts. But some of them if you look underneath the hood are actually have quite different exposures.


Jeff Malec  20:35

And then we talked and we’ll jump in this, we talked about this the other day, it’s, it’s odd to me. You mentioned the other day, we’ll get to it when we look at some of the charts of there’s been a increase in institutional option selling. So it’s odd to me that those same groups are like, Hey, we’re doing way more options selling, but we also want to look at tail hedging. So like, out of those mesh, right seems to me if I’m buying and selling the options at the same time, I’m just Net Zero. Yeah, right. And that simplistic example, but how can they be doing both it seems like you would have to choose either one to sell vol or you want to buy vol, you can’t do both.


Jeremie Holdom  21:10

Exactly, and that that conversation probably starts at the top down. And so if the institution, the CIO, they have a, you know, philosophical bent towards the only way to make returns is to capture risk premia. And so you have to be a seller of options to capture volatility risk premia, then it’s like adding tail hedging to your allocation is going to be next to impossible. However, if you do believe in this diversification framework, where you need something to, you know, to defend against your equity, exposure, credit, exposure, etc, then you’ll probably be more of a supporter of diversifying strategies, such as telescoping. Got it?


Jeff Malec  21:56

And last question before we dig into some charts. Paint me an example of Joe Schmoe endowment institutional investor wants to have tail hedging. What are they typically looking to spend on that? Right, I would the caveat that it’s probably all over the board. And there’s different mandates like we just talked about, but if you could like an average investor, and given current market conditions, like what what is the spend look like?


Jeremie Holdom  22:25

The spend varies, like you said, but a high level approach that we’ve seen happen a couple times is they’ll start with their total overall equity exposure. And then they’ll try and hedge a portion of that, say, half on a notional basis. And that comes to about 50 basis points to 25 basis points relative to the overall portfolio. So that’s for like very large institutional investors. But it varies for per year.


Jeff Malec  22:55

For Lowe’s, most people’s mind, I think that most right, we need to take out an ad in the Superbowl or something, right? Because most of these groups think like, oh, it’d be prohibitively expensive to buy tail edge and coverage, it’s gonna cost me three, four, or five 6% of yours, something like that. And we’re saying, hey, no, it could be 50 bid. Yeah,


Jeremie Holdom  23:13

that’s true. And on the flip side, though, the capital market assumptions that many of these groups have, their target is about 7%. So you do have to be sensitive to how much you can eat from that. So there is a delicate balance there.


Jeff Malec  23:36

Because they’re right, if they have 7%, and you’re taking 1%. Now they’re at six and throws their whole model off. So a whole separate podcast of whether that 7% is really exactly, exactly yeah. All right, so I’m reminded of the old Michael Keaton Batman movie with Jack Nicholson was the Joker, you guys are too young for that. But right and bet and Joker is like, Where does he get these wonderful toys? So I look at your guy’s charts. And I’m like, where do they get these wonderful chart? So let’s start there. You guys do all this in house and you’re probably like, this is simple. Dude, what? It’s no big deal. But you guys create all this in house?


Jeremie Holdom  24:25

That’s right. Yes. Colin, the team, the research team, we are creating various reports like these to screen what’s going on across all of the options, markets and asset classes. And this ball dashboard that you’re showing here is just a view into what has happened historically, for different volatility metrics. And here we’re just showing 90 Day realizable, as well as different implied vol metrics for the four core asset classes equities, interest rates, current CDs, and commodities. What we could do is, instead of going into all of these specifically, I could maybe speak at a high level, kind of what has happened. And then there has been on the call and yeah, and


Jeff Malec  25:17

my question, I’ll throw it now or you can answer it later. Like, why? Why do you care? Right? We’re just talking about NASDAQ ball. And so why do we care? Why do we have all of this when we’re only mostly interested in equity about right, no one’s coming to you and saying, Hey, I need help hedging my commodities, are they?


Jeremie Holdom  25:36

Yeah, for the most part, commodities definitely lie outside of what is acceptable on the basis risk spectrum, with the exception of some of the precious metals, but maybe what we can do, yeah, let’s address that. First, we’ll talk about why does it matter. So it really ties to our approach at longtail especially in the strategies that are related to the explicit optionality. And it ties to what we kind of talked about in the intro, which is basis risk, right. So our approach depends on the the mandate, but at a high level, what we’re trying to do is, we have a reference underlying portfolio that we’re trying to hedge, NASDAQ, s&p 500, group, MSCI acwi. And we have a target event. So the target event is if the market falls 10%, what is the desired multiple 8x, let’s say, or 5x, or something like that. And you’ve defined that. And then what you were looking to do is you want to compare your like, what availability with different options do you have compared to this benchmark hedge or direct hedge, which in my example would be, you know, just pick one one year 10% out of money, often one year 20% of the money option. And so that is the reference index, it has a cost, and you can measure the reliability, it is going to have a guaranteed payoff if the s&p is going to fall. But then the next degrees of basis risks come in two forms. The first one is what we call soft and direct. So now within the same surface, s&p 500 Ball surface, instead of looking at just the one year 20%, on the money option, you can consider put spreads, so you can move around that same expiration strip and see okay, what kind of put spreads are actually screening a bit better. The objective is to maximize the multiple per unit of premium spent. So you’re comparing everything relative to the direct edge. And then on the third rung, and this is where kind of the more global asset class ball comes into play is, now you’re moving to surfaces across asset classes outside of the main equity index, that you’re trying to hedge your fixed income index that you’re trying to hedge, you’re going to take the most amount of basis riskier comes typically in the form of correlation. But you have to now kind of compare everything. And so for example, historically, it used to be a good trade to, for to hedge equity risk, a good basis trade to hedge equity risk was to buy calls on interest rates, for basically betting that interest rates were going to fall. But now, if you study that, as the basis, trade, has very high levels of volatility, so it’s costing quite a bit, and we’ll talk about this in more detail. That’s kind of what we want to talk about. But the equity, fixed income correlation is no longer negative. It’s actually potentially positive. So this basis, trade probably screens and very poorly on two aspects. So that’s just high level why it matters. Yeah,


Jeff Malec  28:43

yeah. And just that basically blowing up the whole idea of the 6040 there, right of like, not just buying calls to have a flight to quality. Been, you’re gonna pay out on that. But if, if your 40 protection is interest rates, you might be in trouble on that into


Jeremie Holdom  29:01

exactly calling you you looked at this quite a bit, right.


Colin Suvak  29:03

Yeah, that’s exactly right. I mean, by some measures, for example, to just to set the stage a little bit, that was obviously when the sort of bed started to raise rates when inflation sort of really started to take hold and become sort of part of the market narrative. by some measures, the real drawdown after inflation, that is the 6040 portfolio going back, you know, 100 years across all sorts of countries with faculty the worst that it has ever been in that year. And I guess it just illustrates the point that Jeremy was making, which is, yeah, historically, in the last 20 years, during this period of kind of negative equity and interest rate, correlation, equity and fixed income correlation. That’s been a very beneficial hedge, but you know, possibly, and it certainly wasn’t the case in 2022. That’s not necessarily the case going forward. And I guess that’s obviously that hasn’t as you said, do have major implications for not only just the hedging that we do and specific names, but sort of rats allocation generally. Love


Jeff Malec  29:54

  1. I’m going to move on anything. The one thing I’ll say that jumps out to me here is corn. Right Like everything else seems noisy corn seems like it’s somewhat on a 60 year uptrend in volatility.


Jeremie Holdom  30:07

Yes, corn is definitely an interesting one. It has the you know, the seasonality with the harvesting of the crop. So volatility a little bit like when you look at equities, single name equities, there’s a seasonality around earnings. corn, soy milk, eggs have similar kinds of patterns, that kind of matter and pricing options. It has an uptrend, but there are others that have interesting trends as well. One of them, which is almost the reverse trend is like, for example, Japanese bonds, or Japanese bond futures ball on that, that has been artificially compressed due to the policy there. Especially not on this chart, though, right? It’s not on this chart, but I’m just pointing out specific trends that can be you know, they can last a long time. Colin, how long would the DAT trend last?


Colin Suvak  31:01

Lower vol trend probably has been around since the 2000s. Really, post 2000s early. That’s sort of the easy monetary policy period in Japan. And you know, you can measure it in one way by saying, Well, what percentage of asset classes were below say their 10th percentile of realizable or their 25th percentile dollar or some level of realized volatility that, you know, would indicate this is a very sort of non volatile asset, what percentage of these have been in those sorts of periods in the last 10 years. And at one point, it got up to something like 80%, across the 100, most liquid futures markets. And I guess the point here is to illustrate that this kind of low volatility regime has kind of been pervasive across asset classes, but as Jeremy said, specifically, in Japanese government bonds in the sort of easy monetary policy period of the 2000s, and certainly 2010s, onward,


Jeremie Holdom  31:49

right? Yeah, and actually, so that sets the stage really nicely to where we are today. 2022 2023 following those two years. So the most important thing everyone knows has been the Fed tightening policy, right, and from Sofer going from 0% to five and a quarter. And given that rates were at the lowest levels, before the tightening move, what you witnessed with interest rates was by some historical records, the worst price movements of all time, the worst losses on record, depending on how you measure it. And so as you can imagine, the realized ball, and implied balls across the curve for the entire interest rate complex, just completely exploded. And that’s kind of what’s really distorted markets. And then another thing that’s distorted markets, which is definitely overlooked, in terms of option pricing, and volatility broadly, is that now we’re at very high rate levels. And that impacts the forwards and forwards are the main, the main mark for all option pricing. And so to the degree that the high interest rates we’re seeing are impacting the forwards, it’s also impacting the relative pricing of options across all these different markets. And I’ll just speak intro like an example that Khan’s gonna go over more more deeply here. But an example here is just looking at equities. So with interest rates so far at 5%, that’s starting to be meaningfully different than dividend yields. And when you have that divergence, it means that your forward is actually priced high relative to the spot. And so what that does is it pushes calls, the prices of calls high, and it pushes the prices of puts low. And so what we’re seeing is relative pricing between calls and puts, you could sell a 10% of the money call for one year, tenor, and buy a a one year 10% out of money put and you can actually collect net premium in and this type of a dynamic has not been seen for the first time since pre GFC. So we could speak on and on about the floor. We have a lot of content on this. But the forward not just on equities, is distorted. This is distorted in FX is distorted in many different markets. And


Jeff Malec  34:22

when you say forward there, you’re talking just the future contracts on the futures or the actual forwards that are traded, what do you mean exactly by forwards all the above


Jeremie Holdom  34:33

all the above. So when you are buying an option, because of the implicit leverage, you are implicitly financing a position. And so because forwards as you know, options are more fundamental units like financing units, then a four you can construct a forward from options but you can’t construct options from forwards. And so options are being priced off of the forward and the future yours is the best gauge of like, futures in equities tend to be the best gauge of the actual forward. That’s been traded today. And all options get marked to the futures by put call parity, and no arbitrage they have to be linked.


Jeff Malec  35:17

And so easy example of that is, hey, I want to buy crude oil three months out, I’m whether it’s through the forward or through an option, I’m essentially financing that by and I have to pay some interest rate. And with rates of 5%. That’s, that’s what I’m going to pay.


Jeremie Holdom  35:34

Yeah, I will, exactly with crude oil, you the shape of the Futures Curve is in contango. So in commodity markets, you don’t just have the interest rate differential between, say rates and dividends, it’s a bit more, you have to carry and shift the curve in the contango. But the idea is the same. Exactly. So you if you’re going to go out for a one year tenor, your option has been priced off of the One Year floor, and where the one year forward sits relative to your spot that has an impact today, this is really starting to show.


Jeff Malec  36:03

And why why? in as few words as possible. If you get the why is that? Why does it drive the cost of puts down inequity


Jeremie Holdom  36:13

is just very simple. So the pricing is based off of the forward and the forward is higher today. So it’s kind of like saying the forward is up, means my call is worth more. And the forward is up means my put is worth less.


Jeff Malec  36:26

So the right so the forward, basically you’re pushing your strikes kind of out. Exactly. So further away from the price


Colin Suvak  36:36

you can think about it is if you were to short versus buy a book, those kind of give the same effective payoff during the NSA a drawdown. So what’s happening here is if you wanted to short you can do to invest that, you know, those proceeds that you get are an interest. And so it makes sort of the buying of an option somewhat less attractive relative to says that outright short and to someone that’s attractive, basically push the price down just another way to think about him,


Jeff Malec  37:01

like that way, right? Like, Hey, why would I buy it when I can sell and earn that? 5%?


Colin Suvak  37:05

Exactly. That’s exactly right.


Jeff Malec  37:14

All right. This is the chart that got me started on our idea here, which I haven’t seen things laid out like this. So kudos to you guys. I must be a sucker for colors and squiggly. And this looks like my kids. Right little like, finger paint back in the day. But um, so essentially, you’re showing here, each of the little finger paint. Dots is kind of a heat map of where things tend to cluster. How far back does this this guy?


Jeremie Holdom  37:44

It varies on the index, but we’re trying to go back as far as possible.


Jeff Malec  37:48

Okay, so sort of ties back to this. So in the s&p back here, I forgot to mention you go back to 1930. Right.


Jeremie Holdom  37:53

For realized all Yep, yeah.


Jeff Malec  37:58

So what’s cool here, right, so this is easy dashboard of like, okay, where things? Where’s ball? Hi, where’s ball low? So jumps off the page more to me than the previous chart that Yeah, three months. So for is incredibly hot. And we actually updated this when we first looked at this two weeks ago. I think it was in that very top. Right. Right. Yeah. So what are you guys main takeaways from from looking at these?


Jeremie Holdom  38:24

Yeah, exactly. I mean, I’ll say two simple little takeaways. And then Colin can definitely dive into the calls versus puts examples. But okay, so relative to the context of interest rates, interest rate, volatility is still quite high. But what’s surprising is the low levels of ball in FX and equities. Now, over the last couple of weeks, equity wall has moved a little bit, it used to be in the 10th percentile. Now it’s 2540. But relative to the backdrop and how high interest rate volatility is, it’s still quite low. And then FX is definitely very, very low on almost all measures.


Jeff Malec  39:07

And when I just read something from UBS today, that last week was the smallest vix move ever, on a week where the s&p was down over 3%. Exactly, exactly. To your point, right. Like it just went from the 10th to 25th percent down that to the fifth year 68%. Down. Yeah.


Jeremie Holdom  39:23

And there’s a lot of interesting stuff going on. In equities. It seems like if you measure realized vol on a Close to close basis, so from yesterday’s close to today’s close, you just look at the percentage change and you do vol on that. It’s very low, very, very low. 12% annualized in US equities, maybe 11% annualized in European equities. But if you look at an intraday measure of wall, depending on how you do it, you’re starting to get more like a 16% ball, which is much more in line with the implied balls in the markets. And so what that’s telling us is, it seems like there’s a lot of The mean reversion algos or systematic vol sellers that have come in in the last couple of weeks to, you know, to manifest that stat you just brought up.


Jeff Malec  40:11

And all that would entail if we’re at highs or lows of the day, they’re going to sell into those buy into those drag things back towards the median. So the closes are reasonable, but the intraday is not. Exactly,





Jeff Malec  40:26

And what what are your thoughts like that works until it doesn’t obviously, right until someone with a bigger book comes along and says, Well, we’re not actually selling you.


Jeremie Holdom  40:34

Exactly. I mean, it’s all, you know, everyone wants to predict what everyone else is going to do in the future. If the pension funds who are systematic sellers, or the institutions are assisting accelerate view, this has a great opportunity at 1820 22 Vol. And there’s not enough demand. Yeah, ball is gonna go down.


Jeff Malec  40:55

So you mentioned there, sorry, Khan, did you have something to add on on these two?


Colin Suvak  40:59

Now, the only thing really that stands out to me here and I’ll just make a quick side point on it is the low volatility of sort of European equities, in particular, among all the markets, that’s really where both realized and implied volatility has been kind of the lowest. And I’d say that within not only equities, but really across asset classes, too. I can’t remember the exact stat but I think for implied volatility, so forward looking vulnerability, it’s something like below its first quartile. So in other words, it’s the cheapest 25% of the time that it sort of ever been. And I guess that really stands out for a couple reasons. One, because that’s kind of been a very good trade offs in the past few months has been one of the sort of the winners this year. And it’s in particular been a winner for CPAs, who I believe are sort of sized up in those positions, certainly benefiting from strong European equities. So that’s one that sort of really stands out. And you can see from the start, it’s pretty much in the lowest that it’s ever been at least on realized measures. So maybe that’s just one I like,


Jeff Malec  41:53

and you believe that to be simply because they’ve been going up? Or is there something Yeah, I


Colin Suvak  41:59

think it’s just been a case of it’s just been a very strong market there. There’s more hope for rate cuts there relative to for example, in the US where I think rate cut hopes have definitely been kind of ash. I mean, you’ve gone from basically six to seven implied cuts from Fed Funds, futures markets to, you know, very few, maybe two at this point, and there’s some speculation that there’d be almost none. Whereas in Europe, admittedly, you’ve had a somewhat weaker economy. But ironically, this is fueling hope for kind of a rate cut there. That’s obviously a bit supported for equities. So it’s probably a combination of a few other things. But that’s maybe just one that sort of stands out in particular as sort of bucking the trend even Within equities is what I would say.


Jeff Malec  42:36

And then I’ll add my own looking at gold there, I would expect gold to be higher with the run it’s had. And it doesn’t really have the same profile, or does it have when it’s rising ball is lower?


Jeremie Holdom  42:48

Yeah, that’s So gold is complicated on all dynamics. It’s sometimes as a people call smile. So when, when price of gold goes up, vol can tend to go up. And then it also goes up when gold prices fall, whereas equities it’s all it’s almost just it goes down when equities rally and it goes up when equities fall. So gold tends to have the smile, but it’s we’ve done a lot of research on this, it depends on how you measure it. And over what time period, sometimes gold actually looks a lot like equities on the ball surface where it’s just the left tail that’s being overpriced, or, or that has the skew, I should say not overpriced.


Jeff Malec  43:38

And so these two were realized, right, exactly. And then next you have implied.


Jeremie Holdom  43:47

Yep. Yes. And the takeaways between implied and realize should generally be the same. But there are a lot of nuances between implied and realize, I think we’ve covered a couple items, right, like depends how you measure realized. And then implied also has so realized has your backward looking events into the time series when you’re calculating ball implied is trying to forecast what the forward events are going to look like. So I’m talking about like seasonality things like earnings in single name, equities or Central Bank meetings in FX and even equity indices, all these kinds of events that are known ahead of time that people are trying to price so that will impact the implied wall, which is obviously not reflected in the realized wall. But by far the biggest predictor or the biggest co predictor of implied vol is realizable, generally.


Jeff Malec  44:50

And the and just eyeballing here, you have way less observations here, right? So that’s just a function of options data.


Jeremie Holdom  44:57

Correct? Yeah, I think that When did option markets first trade I think in the early 80s? Yeah. Whereas realize we can go as far back as the price series itself. Right?


Jeff Malec  45:09

You’ll just take the actual you’re not using options at all just the, the difference right in the ranges or went to


Jeremie Holdom  45:15

the Exactly.


Jeff Malec  45:20

So more equity ball in points, what what’s the so this is in percent, or quartiles or percentiles?


Jeremie Holdom  45:29

Yes. So the how Hot charts are just relative to their own history. And then we have a little line over the last year, I believe. And then the charts themselves are just like, points like wall points. So VIX, 20. Points means 20% annualized implied vol over the next year.


Jeff Malec  45:51

Got it. And so what jumps to me here and these. So let’s talk a little bit about the bottom row there. Of right derivatives of all the V vix and the skew skew jumps out the chart of that trend downwards.


Colin Suvak  46:08

That’s a really good point, that’s definitely one we’ve noticed sort of in the past and it is very high, it’s I think it’s in like its 90th percentile, maybe now let me be a little lower than that. So it’s definitely very high. And maybe just as a little bit of background, for those listening, the skew index, what it basically measuring specifically here is the prices of out of the money options, both puts and calls, relative to the price of at the money options. So it’s kind of trying to price this sort of skewness factor that we’ve sort of met, Jeremy was just got the example of gold where it has maybe like a smirk or a smile, trying to basically price that. But it’s specifically trying to price it for 30 Day options. So relatively short options are dated, excuse me, I should say, options. So that’s definitely very elevated, it’s sort of indicating that there’s there’s buying pressure for volatility, implied volatility that is out of the money. But we actually don’t see necessarily the same thing. I think this is interesting me and maybe Jeremy can add a comment, if you would like, you don’t actually see that same thing if you construct the same index or a similar index, or similar measures, when you look at a little bit further. So when you talk about Jeremy mentioned, the puts versus the calls, trade, for example, where you already have equity exposure, you might want to hedge your downside, and you can finance that by selling and out of money call, if you’re doing that for more like a year or two, the skewness, there is actually very normal, close to the 50th percentile relative to history. So pretty much at its average at its median. So it’s really within shorter dated options, that you’re seeing this kind of elevated level of skew. So I guess the implication, for me at least is that, you know, market participants aren’t necessarily looking beyond the next couple of months in terms of what risks they’re sort of worried about their nest, they’re sort of worried about more of the short run.


Jeff Malec  47:44

And do you think that’s that there? That’s actually what’s happening? Or is it the influx of shorter term balls selling that’s creating that sort of illusion that they don’t, that they only care about the short term?


Colin Suvak  47:56

Yes, it’s possibly a little bit of both. I mean, part of the issue as well is that the Futures Curve of the VIX is pretty flat. Right? Now, maybe it’s a little bit upward sloping. Obviously, to the extent you’re sort of selling ball, the flatter that curve kind of gets a little a little less attractive, it kind of gets, but when it’s sort of upward sloping, it’s more attractive. So I guess there’s this sort of tension playing out right now, where as the curve gets a little bit flatter, it’s a little bit less sort of productive to sell volatility on a forward basis.


Jeff Malec  48:25

Which, yeah, this just we can go we keep going down the rabbit hole, but Right. Is it flattening because of that ball selling? Which the answer must be? Yes. Right. So do they? Are you seeing institutions go further and further out to capture more and more of a spread there? Between, right further out months and in vix versus near month?


Colin Suvak  48:47

Well, the further out you go, I guess my question maybe back to if you don’t mind is give me an like for people that are trying to hedge or


Jeff Malec  48:53

so I mean, for the sellers, right? So right, if the curve steep I could go one month out and get a percent carrier 3% or whatever. Now if it’s flat, and I only get 50 pips there, maybe I go three months out to get the same 2%. Yeah,


Colin Suvak  49:06

it’s pretty flat out the curve as well, really, where you see the biggest Madikeri and I haven’t looked at it exactly the day. So I suppose as of last week, is the month going into the election month, as you’ve probably guessed, that’s kind of a bit of a spike during that period. And so selling that ball would probably be among the more productive uses, but of course, there’s sort of a, you know, event risk going on there. So your convexity risk is quite a bit higher than perhaps sort of normal.


Jeff Malec  49:32

I think I’m a foul seller. They’re like we literally had people storming the Capitol and did nothing so it’s like what’s gonna I guess we don’t want even want to know what would actually spike it would be something truly terrible, but Right, right. And here you go into the South African Indian Nikka.


Jeremie Holdom  49:52

Yes, so the ones that stick out with inequities. Colin already mentioned, Europe, but on the Other side, the ones that have been pretty rich throughout the year relative to Europe and US have been within Asia. So definitely the Hang Seng. And then the Nikkei have been relatively expensive, actually, For opposite reasons. So the Hang Seng is in a pretty massive bear market right now. And so its level of volatility has been, has been what you would expect given the drawdown in that market. So you should expect volatility to rise. Nikkei, on the other hand, has been a bit of the opposite more on speculation. It’s been a vault up market up kind of market. And it’s also breaking out on this longest bear market of all time. So there’s a lot of activity on upside speculation, which is driving that ball a little bit more relative to the other counterparts in Europe and, and the US. Yeah,


Jeff Malec  51:00

that’s an interesting match to me, because we’ve seen right trend followers have kind of been long Japan short China for a while now. Right? Not on purpose, just how the how the prices have trended, but it’s interesting, you can be right back to our endowment that’s like, Oh, I’m diversified. I have Asian equities. Okay, well, are you short one and long the other because trend, Boeing is doing that automatically. But yeah, it’s interesting. The Nikkei is more volatile than the Hang Seng despite it being at a time, right. So let’s dig more into what we talked about of this influx of balls selling. Do you think it’s problematic? Do you not care? Does it help your business? The more salaries the cheaper? Your what you’re trying to tail hedge with? What are your thoughts just on the influx of balls selling?


Jeremie Holdom  52:00

Yeah, I’ll say a couple comments. I’m curious if Colin, you have any thoughts. But, Jeff, I think it’s good for both of our businesses, broadly speaking, to see more options, sellers, but we don’t really see it as particularly out of line. So it seems quite balanced. Obviously Famous last words, watch the VIX go to 90 next week. But at the moment, it seems kind of balanced. And it’s hard to estimate. People are always trying to estimate what the other players are doing, like where are the other players and stuff like that. But you can kind of measure it through a couple of ways. So one you can do is if you have the trade data on options, big, big, big data safe. But if you have the trade trade data, you can try and mark where everyone is by how close they trade relative to the bid or the ask if they’re very close to the ask, you can say their net buyers does assumption you don’t really know. But if they are, and if they’re close to the bid their net sellers, sum that all up and then you have some profile of where everyone is. If you don’t have that you can try and get estimates from dealers. And they’re probably just doing that on their side. Take that with a grain of salt, though, but it’s the best you can do. Other ways would be ETF. So you can use ETFs as proxies. So you can basically there’s a lot of implicit or not implicit, like explicit vol selling ETFs out there and you can it’s all public information, you can look at the flows. And then you can try and say, Well, if the market on average is similar to the ETF, this is the trend involves selling today. But that’s about it. You know, everyone’s trying to have a best guess on how many sellers there are. But in our view, it seems slightly balanced. And they have come in a little bit recently. But aren’t


Jeff Malec  53:55

as you say that I’m there’s a couple of these sites and Twitter handles that have popped up that are recreating the book, they think of like, here’s how much game is out there and whatnot, like what are your thoughts? Just generally, Is that doable with public available data or not really?


Jeremie Holdom  54:12

No, I think it’s totally doable. It’s similar to another famous indicator. More on the trend space, but are you familiar with caught data Commitment of Traders data? Yeah. Yeah. So there are, there’s evidence of maybe you want to call them discretionary traders, using that very successfully. Systematic traders have had a hard time using that data. The time markets, I would imagine,


Jeff Malec  54:41

through it, like I’ve seen in real time have huge trend followers that go through groups I work with and they’re basically hiding their size from that report. Like they’re either either purposely or inadvertently. So the whole met the whole mechanism of like actually measuring that and who’s Who’s a bonafide hedger who’s a commercial who’s a speculator is fuzzy just at the best. So yeah, I don’t put a lot of faith in that. So you’re kind of same thing like, how do we know which group is which everyone’s playing


Jeremie Holdom  55:11

games. So if you’re hiding where you are in the futures market, you probably know how to hide where you are in the options market. And, you know, we use a lot of these techniques ourselves to hide volume from the exchanges. Because you know, the last thing you want is to have dealers or market makers know where strikes are very concentrated.


Jeff Malec  55:35

Yeah. You, which is interesting. And so like, so you’re using algos and kind of anti gaming logic, all that stuff to be like, Hey, we can’t show where we’re at, necessarily, or we’re gonna get picked off. Right?


Jeremie Holdom  55:47

I mean, that’s, that’s the name of the game in execution. In terms of some numbers, so for example, cost of a direct hedge one year 20% of the money is about 120 basis points, right column, something like that. 130 right now, that’s about right. Yeah. And then the bid ask spread is probably five to 10% of basis points of that on calm periods. But when you have big ball events, it can go up to 50 basis points. So that eats up, right. So just naively following benchmarks and just smashing the ask, every day is, is gonna eat up it’s gonna cost you a lot over the long run, which is not in any backtests the Mac this is perfect. You You got the mid everything’s clean. But in reality that differences can be quite large.


Jeff Malec  56:46

Well to your base, because I would 1.5x or even two or 3x your annual costs. Yep. Yeah. And let’s talk column from in about zero DTE was everyone wanted to talk about it this time last year seems like it’s fallen off the news a little bit but what are your What are you guys seeing? It’s still out there. It’s still a big deal. Do you guys train them? What are what are some zero DT thoughts?


Colin Suvak  57:19

Yeah, go for Jeremy.


Jeremie Holdom  57:22

Yeah, so on the zero DTE front, we are not the we’re not extremely active there. We tend to go more weeklies, monthlies, and then longer dated options. But what you can do is you can study zero, deeply activity, no surprise, looking at the forwards. So what do I mean by that? So what you can do is, you look at the interest rate, differential, sofa rate, dividend yields, and then you impute what the fair forward look like. And let’s say it’s 5050, on the s&p 500. And then you look at where the actual forward trades, and it actually trades 50 basis points richer on shorter, dated tenors. And so what that implies is there is speculative or I shouldn’t say speculative activity it just is trading rich with which means it’s difficult to finance a long position in underlying cash equities at the moment. So what can that come from that can come from a couple of things, it can come from swaps, a lot of swaps being offered, it can come from just brokers offering leverage to their clientele, or it can come from a shortage and collateral when people are buying calls. So if people are buying calls, the market maker who sold it to them has to deliver the collateral, the underlying shares if the call finish in the money, right. And so when there’s a scramble for collateral, the cost for financing the collateral becomes more expensive. So it’s not a it’s again, it’s like this caught data. It’s like the other data we talked about. It’s not like perfect, but it can at least you can speculate that it is an activity where there’s actually a lot of digital TTP, call buying, which is somewhat contradictory not contradicted, but just contrary into what others think where it’s just a lot of balls selling.


Jeff Malec  59:30

Right, we’re so called buying is buy the market makers are saying or that’s by the institutional buying the


Jeremie Holdom  59:35

calls. Yeah, and probably retail.


Jeff Malec  59:39

Right. I’ve had some talks and heard that it’s mostly some institutional of like, hey, if I can sell that the bibs are 40 pips out of the money call on my portfolio today, I’m more than happy to make 40 pips every day. Yeah,


Jeremie Holdom  59:53

that would be the sellers. Yeah. Yeah. Interesting.


Jeff Malec  59:57

But do you and all this data we just looked at do we We think those zero d t is leaving a footprint. Is it suppressing? Vol.


Jeremie Holdom  1:00:07

I don’t know if it’s suppressing vol. Because the for another for the term structure, which is just comparing at the money walls across different explorations? Yeah, is not completely out of line. If you look at one day versus one week, it’s trading quite fairly. Does it leave a mark? Absolutely. There’s a saying that, you know, vol is not exclusively here pinned to your expiration strip. And what that means is that a lot of activity and in a shorter dated expiration strip can flow and move long like longer dated expiration strips and vice versa. So, because zero d d has seen a record inflow of volume over the last five years, that is maybe the most sensitive aspect of market maker books now. And so therefore, the inflows at zero DTE is going to impact the way they price longer dated options. Whereas maybe previously it was the other way around. Right, it was probably till hedgers in the longer dated option space pricing the shorter dated options, but now it’s probably the other way around.


Jeff Malec  1:01:26

So if we pick this up again, in six months in a year, and these charts are looked completely different, what would be the catalyst? What’s, what are some things that could kind of shake us out of this current? Well, I guess offer at first as what? How long have we been in this current bull environment? Seems to me like maybe 18 months ish or something? Maybe that’s a little too long. But what would shake us out of that current environment? Do we do a phase shift? Lower a phase shift higher? What are your thoughts? With the with the caveat that nobody knows anything?


Colin Suvak  1:01:59

I’m happy to take a little stab at it, Jeremy. And then if you want to, please. Yeah, I would say for me, the main thing is definitely the fixed income equity correlation. I just think I know we’ve already sort of discussed that. I know, it’s sort of something that people are kind of aware of at this point. But I just really think that that is such a huge impactor of so many other things I mean, not least of which is the overall asset allocation structure of the majority of institutional investors today in the US and globally as well, for that matter. And that’s kind of coinciding at a time that trend followers, for example, are generally much longer terms using generally much longer term signals today. So they’re generally longer equities. They’re generally short rates. And those two things are kind of benefiting one another. Because the correlation is positive between equity and fixed income right now, when measured using a long horizon. If you’re long equities, and you’re short, something that is sort of positively correlated with that you’re kind of getting a benefit in terms of the portfolio’s risks. So our impression is that, therefore, CTAs are generally pretty long equities and rates. And obviously, the implication here is that if that correlation goes back to kind of what it has been in the sort of post 2000 period of the the anchored inflation expectation period, it goes back to negative that obviously, Perkins significant shifts in at least systematic positioning, and to the extent it stays positive, I just think that really requires a rethink of all asset allocation plans. So for us, I think there’s certainly something we’re watching, especially because when you measure vol over, or excuse me, when you measure correlation over a shorter window between those two asset classes, it’s actually kind of reverted back to this negative region, the sort of more usual that people are kind of used to over the last 2030 years. So that’s why I mentioned that CTAs are a little bit longer, because it definitely matters, what models they’re kind of using. And our impression is that they’re mostly using longer dated models right now. So I don’t know if Jeremy would add to that, or there’s a follow up question there. But that’s kind of maybe one thing I’d highlight and


Jeff Malec  1:03:55

migrate from follow up comments or me Jeremy, real quick is just like, it seems almost too obvious, right? Of like, yes, everyone’s reacting to what’s happening with the Fed, whether they’re going to cut this year neck. And so that’s what’s driving the stock market up or down. So it seems like almost too obvious that that’s the catalyst but such as c’est la vie, that’s where we’re at, right? Yeah,


Colin Suvak  1:04:15

I would say you’re totally right. It’s obviously the thing that’s talked about, you know, every single day in the Wall Street Journal at this point, it seems like you know, where is inflation going, where rates going, etcetera. But it has a lot of implications for other assets. And it’s primarily because of this inflation effect, you know, rates have risen at other times in the past 20 years when that correlation has stayed negative, the sort of mid to late 2000s are before the financial crisis is one sort of such example. And others, of course, when Danielle began tightening in I think it was late 2015 was when they started. So these things have sort of occurred before but the difference now is inflation. And we’re seeing that kind of manifests itself in other ways. So I don’t mean to open a whole can of worms here. But one asset that we’ve been following, I think was mentioned earlier in this talk was gold, for example, as we sort of know gold tends to be sort of a bet on real rates declining, the obvious reason here is that it doesn’t have a convenience yield doesn’t have really a dividend yield. So ultimately, it’s kind of this bet on real rates falling. But what we’ve seen is that real rates have increased this year. And at the same time, gold has been doing very well, it’s among the best performing assets, actually, this entire year, even among equities. And in our view, this potentially pretends kind of a, a shift to what we would call like the fiscal policy regime, we’ve definitely been in the monetary policy regime for a long time now, definitely, since Volcker, in my opinion. But now we’re going into this phase where like debt to GDP is very high, the budget deficit to GDP is very high, rates are rising, etc. And the most similar periods that we can identify to today, and this is a sort of mathematical sense as well, I’m not gonna go into details are actually the two World Wars and Japan Post 2000. So in other words, in an otherwise expansionary economy, great economy, great environment, you’re spending like you have been spending in two world wars, the largest, arguably events in human history. So I guess the point here that I’m making is you’re absolutely right, this kind of narrative of the fixed income equity correlations being talked about. But I think the difference nowadays, relative to other rate rising periods, is this inflation impact. And inflation is sort of spilling over into all these other sort of areas that of course, have so many, so many potentially downstream effects,


Jeff Malec  1:06:17

and seems hidden in there as what I see in the student loan stuff, right? Like, we can’t stop, we’re like, there’s no way those student loans are ever going back. Like, right every time it’s like, hey, we need to extend, extend, don’t make them pay the bank, which right whatever, whatever your views politically on that, who cares, but just the fact that there’s no, neither sides willing to undo it? Is that That’s the monetary policy, right? Like, hey, we need to keep giving this money away to keep things going.


Colin Suvak  1:06:43

Exactly. Yeah, I think for the first time in a while, I mean, of course, people have talked about, you know, us the US government debt for a long time now. And it just hasn’t mattered, frankly. But I think it’s primarily because as you say, we’ve been in this monetary policy regime, we’ve been in the regime where monetary policy is the driver, fiscal policy has really taken a backseat, you know, other than the sort of large bills that we all, you know, we’ll think about post GFC, tax cuts in 2017, etc. It’s kind of taking a backseat to monetary policy, but all of a sudden, it’s kind of been thrust into the forefront. And there’s been a lot of papers that have written recently about, you know, just how seismic of a change this is. And one way that it’s manifested itself so far, is in the fixed income equity correlation. The other is in gold, as I was mentioning, obviously, many other examples sort of abound, but I guess that’s kind of what I would say is what we’re watching, like, yeah, I guess quite closely, though.


Jeff Malec  1:07:33

Jeremy, did we cover that guy? Anything else on that?


Jeremie Holdom  1:07:35

No, that is perfect. Let’s see.


Jeff Malec  1:07:39

And I had one more question for you, Jeremy. From your very beginning, you said that you guys do right tail hedging in equities, or in all these assets. So that’s just of interest. And I think I would catch a lot of people off guard, like, who cares if we make 40%? On the on the upside? Why are we hedging that?


Jeremie Holdom  1:07:57

That’s right, yeah. So it’s the opposite mindset. The reason why this strategy started was because there was a credit manager, who I believe was high yield credit. And the names that they were in would generally lag, equity market beta, or credit beta. And so their mandate was, you know, to keep up with this benchmark, but they were buying relatively more quality names. And so they needed something to catch up to that equity beta. And so that’s kind of the, you know, intellectual idea of philosophy behind the fun. But it is also a powerful tool for reducing beta and only spending premium, which is known upfront, to get it. It has the opposite profile, to tail risk hedging left tail risk hedging in the sense that it is actually positive expected returns over time, based on the fact that equities tend to go up. And then it has very different dynamics in terms of monetization, because just the way equities rally vol reacts very differently. So you’re not expecting the ball to blow up when equity markets go up. So you have to be very careful on how you set your rules and it’s not a mirror image to the left tail.


Jeff Malec  1:09:26

Right that is interesting, right? It makes you think like hey, reduce your is it used in that way also, hey, I’m going to reduce my equity exposure a little bit I’m we’re getting Toppy, whatever that means. And instead all in lists this in case there is a huge move up I can still participant yep,


Jeremie Holdom  1:09:41

that’s exactly how it’s used. It’s used to also fund left tail. So you can use the proceeds to find another side of the distribution. So it’s, it’s it’s not very talked about But it definitely fits into our overall business model of diversifying strategies because it’s all about changing the distribution of the underlying portfolio.


Colin Suvak  1:10:12

Yeah, I’ll add one thing there. We talked about private equity earlier. And obviously, the benefits it has when it comes to sort of, in some sense hedging. I’ll use that word sort of lightly. Obviously, the sort of downside, Vol, but it kind of has the same effect on the upside. Now we all know managers are sort of more quick to mark up than they are to mark down. But our experience has been that allocators do sort of feel this drag to a certain degree in up markets. And what we’ve actually also found that markets can be even more sort of like, I don’t know if this is the right word to use, but kind of vicious, I guess, is maybe the word I would use, you know, sort of more pronounced in the short run. And so it’s kind of a way to hedge your private equity exposure on the upside as well, because you have what is a mandate of, you know, effectively 10 years, but in reality is probably being measured over, you know, one to three year periods. That can be a pretty painful period of underperformance if your marks are not keeping up with you know, roaring public market


Jeff Malec  1:11:09

seems like it’s the window dressing strategy. Okay, you might get fired if you’ve drastically underperform XYZ index. So you better do some right tail hedging. And then to tie a nice little bow and talk to me to finish up the so all these different pieces, longtail alphas using, how do they work together? You guys, you’re using these charts your use? Is there an investment committee, you’re saying, hey, we need to be more into trend following we need to be more in detail edging, we need to be in cash. How does that look? Structurally, how do you guys make those decisions?


Jeremie Holdom  1:11:44

Right, so you’re referring to the strategy we call? Oh, yeah, the strategy that kind of blends these ones? Yeah. Basically, it’s through the generalized optionality framework. So everything has some sort of a cost. And so there are moments where if you want to compare explicit optionality versus trend falling, or implicit optionality when implied vol is extremely low. But realize while is maybe a bit higher, then it’s always better to do explicit optionality. Because it’s very cheap to buy those options. But in moments where implied vol gets very high, and realize wall is very low, or like not as high and keeping up with implied vol, that’s when you could argue to size up trend falling. So there’s definitely an interplay between the two. And then, like, always kind of be


Jeff Malec  1:12:39

an example. They’re like, hey, we had we had the initial vol, the options spiked. Now if I buy those options, it’s going to be prohibitively expensive. Let’s move into the code icon before the input second responder Yeah, respond first responder did his job, get them off the field and the second responder in here who’s going to be cheaper? And then what when and then it could both be prohibitively expensive then you’re just in cash or what does that look like? I remember from the old pod veneer still likes cash, right?


Jeremie Holdom  1:13:09

Exactly. That is the the in veneers framework, it’s the when it all as all else fails. Cash is the only thing that’s reliable. And so yeah, when everything is expensive, cash is the best diversifier you can yield and probably a little bit of a coupon depends what rates are. And you can redeploy those proceeds at other times when assets are very cheap.


Jeff Malec  1:13:35

Not bitcoin cash.


Jeremie Holdom  1:13:39

Cash, I mean, Bitcoin and gold. There’s internal debates in our firm about that, but yes, we’ll


Jeff Malec  1:13:45

leave that for another day. Yeah. Awesome. I think we’ll leave it there. Guys. Let’s you got any last thoughts?


Jeremie Holdom  1:13:54

No, thank you very much. That’s great. Got


Jeff Malec  1:13:56

it. Yeah. And we’ll put links to longtail alpha and you guys just wrote a paper, too on option pricing or option returns, right. So we’ll put that link in the show notes as well. Thank you. All right. Really appreciate it. Thanks, guys. We’ll talk to you soon. Alright, that’s it. Thanks, Jeremy. Thanks, Colin. Thanks to longtail Alpha thanks to Jeff burger for producing. We’ve got Joe Kelly of Campbell and CO coming on next week. That’ll be fun. So go subscribe wherever you listen to to get that as soon as it drops. Peace


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