Tuesday, June 15, 2010

Benchmarking Volatility Strategies

The Standard & Poor Volatility Arbitrage index is a interesting benchmark for the different vol arb hedge funds out there. The index measures the performance of a variance swap strategy that consists of receiving the implied variance of the S&P 500 and paying the realized variance of the S&P 500. The rationale behind this strategy is that implied vols tend to exceed realized vol, and it’s been almost always the case for the S&P500:


Despite the sudden spike in realized volatility, the S&P Vol Arb index still outperforms the equity market (S&P500) since inception in 1990. The graph below plots the total return version of the Vol Arb index (SPARBVN, in amber) calculated on a total return (funded) basis, versus the total return on the S&P 500 (with dividend reinvestment) shown in white. Indeed, the Vol Arb index shows that a rule-based variance swap strategy, despite the drop in the Fall of 08, is still far ahead of the return on the S&P500. Moreover, its volatility is clearly much lower.


No comments:

Post a Comment