Variance swap

A variance swap can be used to hedge tail risk. One counterparty (Sally the trader, in this example) pays a forward (fixed) variance in exchange for a future, REALIZED variance. So she is "long volatility" and will profit if the realized variance is greater than expected. The advantage of a variance (or volatility) swap is the relatively pure bet on volatility; e.g., it is not a directional bet on price and lacks some of the Greek exposures of (eg) an option.

You can get the spreadsheet I wrote for this on our website!

Category:

Education

Tags:

• Variance
• swap
• volatility
• hedge
• tail
• risk
• counterparty

[WGS669]

I heard the talking heads on CNBC discussing this sort of contraption. Their propaganda is that there will be no tail risks for many years to come. Should tell you something.

[bionicturtledotcom]

@WGS669 Yea, i don't listen to CNBC (i believe it's just too much short term noise that "crowds out" potentially useful thoughts). No tail risks for years to come? whatever...however, I will say that, among the more advanced instruments, I do like this variance swap. I think is absolutely has a good use in the right hands

[WGS669]

@bionicturtledotcom I would agree with the noise analogy. However a better one is CNBC as Tokyo Rose, or as shepherd over a flock. If I consume it through that filter, I can learn things. That is, as long as the filter is properly constructed. Your vids are helpful in creating that filter. I can't thank you enough for that.