tag:blogger.com,1999:blog-35364652.post1067263832054806475..comments2024-04-16T09:30:34.503-04:00Comments on Quantitative Trading: Shorting the VIX calendar spreadErnie Chanhttp://www.blogger.com/profile/02747099358519893177noreply@blogger.comBlogger32125tag:blogger.com,1999:blog-35364652.post-18161833397427236322011-05-05T11:23:36.863-04:002011-05-05T11:23:36.863-04:00I haven't seen any other sources commenting on...I haven't seen any other sources commenting on the structural tendency towards contango in VIX, let alone the ETN's own impact on it. <br /><br />I just posted an article here: http://seekingalpha.com/article/267950-ipath-s-p-500-vix-short-term-futures-etn-swimming-against-the-currents on the subject where I include data on the Month 1 to Month 2 roll yield going back to 2004 (over 75% of the time is contango)<br /><br />I'm interested in any feedback of the theoryAdministratorhttps://www.blogger.com/profile/12799136696974150915noreply@blogger.comtag:blogger.com,1999:blog-35364652.post-48419318164462046282011-05-03T17:48:20.737-04:002011-05-03T17:48:20.737-04:00Hi gray,
Excellent point!
Yes, quite a few strate...Hi gray,<br />Excellent point!<br /><br />Yes, quite a few strategies involving ETF and ETN's are due to this pressure to rebalance or rollover. A strategy for trading the ultras (ETF's that deliver 2x or 3x the daily returns of SPX) comes to mind -- there is pressure to buy SP futures if SPX goes up, and to sell if SPX goes down. I have also heard of rollover pressures affecting commodities ETF's that hold commodities futures, but could never find the effect through backtest. Perhaps you have seen articles on this rollover effect? If so, please share with us here!<br /><br />ErnieErnie Chanhttps://www.blogger.com/profile/02747099358519893177noreply@blogger.comtag:blogger.com,1999:blog-35364652.post-31662944980643945862011-05-03T14:31:57.080-04:002011-05-03T14:31:57.080-04:00Excellent topic. I've been doing research int...Excellent topic. I've been doing research into the structures of these ETNs for similar trades, namely short the VXX by itself as a way to profit from the contango on the front end of the curve, essentially shorting the M2-M1 calendar spread. <br /><br />Many make the assumption that contango is the market's way of saying E(ST) > spot VIX. However, I feel there are structural reasons keeping a persistent contango in the VIX futures market. <br /><br />One of my observations, and something I'd appreciate your insight on, is that the VXX has become very large in proportion to the first and second month futures contracts it replicates. Back of envelope math shows that if iPath were to actually hedge its exposure by rolling its Month1 contracts into Month2 contracts bit by bit, they'd account for 30-40% of daily trading volume on the VIX futures. <br /><br />This volume of buying would certainly push down the price of the contract being sold and push up the price of contract being bought, tipping the scales towards contango, which has been borne out by the past 6 or 7 years' data.<br /><br />You're certainly right that contango by itself isn't enough to "ensure the profitability of shorting a calendar spread" but is enough to tip the odds in your favor. Proper risk controls are essential however, since the VIX can take the escalator down, but the elevator back up!Administratorhttps://www.blogger.com/profile/12799136696974150915noreply@blogger.comtag:blogger.com,1999:blog-35364652.post-66919861139799759942011-02-22T07:41:54.446-05:002011-02-22T07:41:54.446-05:00Anon,
Yes, when we have contango and b>0, the p...Anon,<br />Yes, when we have contango and b>0, the profit is indeterminate, just as when we have backwardation and b<0.<br />But when we have contango and b<0, or backwardation and b>0, then shorting the calendar spread will be profitable.<br /><br />Thanks for the excellent point and the discussion!<br />ErnieErnie Chanhttps://www.blogger.com/profile/02747099358519893177noreply@blogger.comtag:blogger.com,1999:blog-35364652.post-69114815275326441242011-02-21T22:30:53.853-05:002011-02-21T22:30:53.853-05:00Ernie,
I totally agree with you on the case where ...Ernie,<br />I totally agree with you on the case where term structures of futures and expectation on underlying are opposite. However when they are in the same direction like the case you consider at the end of the post one cannot say one way or the other.<br /><br />VVAnonymousnoreply@blogger.comtag:blogger.com,1999:blog-35364652.post-19787008214294984552011-02-21T21:55:31.923-05:002011-02-21T21:55:31.923-05:00Anonymous,
Actually, I think we can still forecast...Anonymous,<br />Actually, I think we can still forecast the profitability of shorting the calendar spread based on the term structure and the sign of b. <br /><br />Here is my argument. If we have contango as well as b < 0, then ac+b > 0 will mean ac/b < -1, <br />which means ac/b < 0, which means <br />bc < 0 since a > 0 as always, which implies shorting the calendar spread will be profitable.<br /><br />(In my previous answer to you, I incorrectly stated that if b>0 and c>0, then shorting the spread would be profitable. I should have said "unprofitable".)<br /><br />ErnieErnie Chanhttps://www.blogger.com/profile/02747099358519893177noreply@blogger.comtag:blogger.com,1999:blog-35364652.post-88945980465053337382011-02-21T15:34:28.718-05:002011-02-21T15:34:28.718-05:00p.s. Therefore you cannot forecast the profitabili...p.s. Therefore you cannot forecast the profitability of the trade by just observing the term structure and market expectation of the underlying trendAnonymousnoreply@blogger.comtag:blogger.com,1999:blog-35364652.post-51720811520268348502011-02-21T15:31:32.328-05:002011-02-21T15:31:32.328-05:00Ernie,
Thanks for the explanation. I think it is s...Ernie,<br />Thanks for the explanation. I think it is still true that your conclusion is much weaker now. One cannot argue that because term structure is contango(ac+b>0) and expectation of underlying is increasing(b>0) shorting the spread would not be profitable(bc>0).<br /><br />VVAnonymousnoreply@blogger.comtag:blogger.com,1999:blog-35364652.post-21706611477819503232011-02-21T09:12:06.036-05:002011-02-21T09:12:06.036-05:00Hi VV,
Yes, you are right. Contango is determined ...Hi VV,<br />Yes, you are right. Contango is determined by ac+b > 0 instead of just c > 0. <br />However, the main conclusion of my post is still correct. If b>0 and c>0, then we have contango (since a > 0 always, as futures price cannot be negative), and also the calendar spread will be profitable. If b<0 and b<0, then we have backwardation, but the calendar spread is still profitable!<br />ErnieErnie Chanhttps://www.blogger.com/profile/02747099358519893177noreply@blogger.comtag:blogger.com,1999:blog-35364652.post-9702963701525575622011-02-20T13:24:24.531-05:002011-02-20T13:24:24.531-05:00Hi Ernie,
Thanks for the interesting post. I got a...Hi Ernie,<br />Thanks for the interesting post. I got a question. The condition for contango should be <br /><br /> ac + b > 0<br /><br /> because that's the coef of linear term for futures price. Let me know if I miss something.<br /><br />Best,<br />VVAnonymousnoreply@blogger.comtag:blogger.com,1999:blog-35364652.post-81494580830893888342011-02-19T07:49:25.776-05:002011-02-19T07:49:25.776-05:00Hi George,
See Taylor series expansion of the expo...Hi George,<br />See Taylor series expansion of the exponential function. For e.g.<br />http://en.wikipedia.org/wiki/Taylor_series<br /><br />ErnieErnie Chanhttps://www.blogger.com/profile/02747099358519893177noreply@blogger.comtag:blogger.com,1999:blog-35364652.post-5513718567495834962011-02-18T16:01:06.248-05:002011-02-18T16:01:06.248-05:00Hi Ernie,
Could you direct me to some literature ...Hi Ernie,<br /><br />Could you direct me to some literature deriving the linear approximation of the exponential? I imagine it is a very useful tool! However I am not sure I have an intuitive understanding where the coefficients a and b come from. Thanks for posting your insight!Georgenoreply@blogger.comtag:blogger.com,1999:blog-35364652.post-22087542996091195372011-01-27T08:19:40.460-05:002011-01-27T08:19:40.460-05:00Hi Anon,
No, the expected spot price E(ST) at time...Hi Anon,<br />No, the expected spot price E(ST) at time T is in general not equal to the current spot price St at time t.<br />ErnieErnie Chanhttps://www.blogger.com/profile/02747099358519893177noreply@blogger.comtag:blogger.com,1999:blog-35364652.post-42205943587266290482011-01-26T21:23:47.058-05:002011-01-26T21:23:47.058-05:00Hi,
Great post! But, shouldn't
F(t, T)=E(ST)...Hi,<br /><br />Great post! But, shouldn't<br /><br />F(t, T)=E(ST)exp(c(T-t))<br /><br />simple be<br /><br />F(t, T) = St exp(c(T-t)) where St is the underlying's price at t?Anonymousnoreply@blogger.comtag:blogger.com,1999:blog-35364652.post-32580357917359922382011-01-23T12:31:53.156-05:002011-01-23T12:31:53.156-05:00Yes, I'm familiar with programming. I have my ...Yes, I'm familiar with programming. I have my own plan for developing a trading machine and all I need from the trading platform is that it be able to execute orders, and give me access to data. <br /><br />I'll check these out, thank you!Anonymousnoreply@blogger.comtag:blogger.com,1999:blog-35364652.post-85807364893675160022011-01-23T08:04:20.145-05:002011-01-23T08:04:20.145-05:00Hi Anon,
When you said "write my own scripts&...Hi Anon,<br />When you said "write my own scripts", does that mean you are familiar with programming? If so, you can easily write Visual Basic programs and run them with Interactive Brokers.<br /><br />Tradestation is of course another popular choice.<br /><br />For forex and futures traders, I heard Metatrader is a popular platform that can be used with multiple brokerages. Maybe readers who have experience with Metatrader can comment on it?<br /><br />ErnieErnie Chanhttps://www.blogger.com/profile/02747099358519893177noreply@blogger.comtag:blogger.com,1999:blog-35364652.post-61221838278474541232011-01-23T05:50:57.181-05:002011-01-23T05:50:57.181-05:00Hello Ernie!
I'm new to trading, could you gi...Hello Ernie!<br /><br />I'm new to trading, could you give me a clue what trading platform which enables me to customize it, write my own scripts and manipulate data with less possible restrictions should I use? I just don't know what to begin with. Thank you!Anonymousnoreply@blogger.comtag:blogger.com,1999:blog-35364652.post-3954046443602868702011-01-21T17:53:01.569-05:002011-01-21T17:53:01.569-05:00drtom,
You can direct your question to Dr. Thorp h...drtom,<br />You can direct your question to Dr. Thorp himself at edwardothorp.com. I have corresponded with him before and he has been very generous with his time.<br />ErnieErnie Chanhttps://www.blogger.com/profile/02747099358519893177noreply@blogger.comtag:blogger.com,1999:blog-35364652.post-33152527273646228442011-01-20T08:10:18.042-05:002011-01-20T08:10:18.042-05:00Hi, in your book you present Thorp's formula f...Hi, in your book you present Thorp's formula for continuously compounded growth. I looked at Thorp's paper and in his derivation on pg23 he skips the steps where develops the previous formula into a power series. Despite efforts of me and my friends we could not figure out how he gets there. We were close but not quite there. This is the only thing in his paper I didn't manage to derive. I would be very grateful if you could point me to any source where this derivation is done properly. Thanks in advance for your help.drtomnoreply@blogger.comtag:blogger.com,1999:blog-35364652.post-82762346100302512011-01-19T10:11:28.968-05:002011-01-19T10:11:28.968-05:00Anon,
From my personal backtests, SVM has shown n...Anon,<br /><br />From my personal backtests, SVM has shown no ability to generate consistent profits. <br /><br />If you find that a nonlinear method generates good out-of-sample backtest results in a consistent way, my kudos to you! <br /><br />ErnieErnie Chanhttps://www.blogger.com/profile/02747099358519893177noreply@blogger.comtag:blogger.com,1999:blog-35364652.post-35631020437334438062011-01-19T08:56:14.169-05:002011-01-19T08:56:14.169-05:00When we are at it with the nonlienear stuff. I Hav...When we are at it with the nonlienear stuff. I Have a question about SVM post. The model doesn't seem to be able to generate good sharp but beside that. You wrote once that the model that seem to work for you do not involve non linear fitting. Do you consider SVM as one of the artificial intelligence crap? Any Kernel based Method? <br />What about if it had shown excelent backtest results?<br /><br />I'm starting to learn about kernel based pattern analysis and don't really know for now were I'm heading.<br /><br />ThanksAnonymousnoreply@blogger.comtag:blogger.com,1999:blog-35364652.post-14330548333301996662011-01-19T07:24:51.831-05:002011-01-19T07:24:51.831-05:00Hi J.F.,
The analysis here is not purely academic,...Hi J.F.,<br />The analysis here is not purely academic, as it points out what I think is a common misconception among traders. For more debate on this topic, see http://sdanlovell.wordpress.com/2011/01/11/the-vxxvxz-trade/.<br /><br />My personal view is that this spread will eventually mean-revert, but this is just a hunch with no theory behind it. <br /><br />ErnieErnie Chanhttps://www.blogger.com/profile/02747099358519893177noreply@blogger.comtag:blogger.com,1999:blog-35364652.post-27432599926190259062011-01-18T20:51:22.030-05:002011-01-18T20:51:22.030-05:00Ernie,
Thank you for the informative post.
In your...Ernie,<br />Thank you for the informative post.<br />In your book, and on this blog, you concentrate on spreads that are mean reverting. VXX-VZX appears to be a spread that is in a trend (but, as you point out, for how long?).<br />Are you presenting this mainly as an academic example/ intellectual exercise, or do you think it is a good idea to attempt to profit off trending spreads?<br />Regards,<br />J.F.J.F.https://www.blogger.com/profile/01860929381824302398noreply@blogger.comtag:blogger.com,1999:blog-35364652.post-7325483261931751962011-01-17T08:00:28.675-05:002011-01-17T08:00:28.675-05:00Hi Al,
I dislike most nonlinear models. You can se...Hi Al,<br />I dislike most nonlinear models. You can search for my blog posts on artificial intelligence and you will see why.<br />Best,<br />ErnieErnie Chanhttps://www.blogger.com/profile/02747099358519893177noreply@blogger.comtag:blogger.com,1999:blog-35364652.post-44860221441255918112011-01-15T00:00:36.351-05:002011-01-15T00:00:36.351-05:00Dear Ernie,
Do most of your strategies revolve ar...Dear Ernie,<br /><br />Do most of your strategies revolve around linear modelization or do you venture in non-linear with neural nets?<br /><br />Thanks,<br /><br />AlAnonymousnoreply@blogger.com