10
VIX Strategies: Long Vol via 1x2 Call Ratio
Let the Mark-to-Market work for you
Long 2 options kicks in as VIX rises
Delta, Gamma, Vega profile, all flat at
inception, increase with move up in
the futures
Replicate a long call profile but for
less cost (VIX APR 22.5 C costs 1.65)
Customer paid .21 in April 2010.
Unwound for $4.70 in May. Futures
never breached the upper break-even
11
VIX 1x2 Call Spread – How it Works
Profile changes drastically in an event
Structure at inception
Flat Delta
Flat Vega
Flat Gamma
Flat Theta
Flat Premium
VIX Delta increases with futures
At extremely high levels of VIX this
becomes a one delta product
VIX Implied Vol increases with futures
Vega sensitivity increases with futures
The two options you are long pick up
value faster than the one short
PNL Profile Comparisons at trade initiation
Short 1x2 Call Sprd
Long 20D Call
40
1.5
1.0
PNL Profile Comparisons at trade initiation
$MM PNL per $1MM Vega
$MM PNL per $1MM Vega
2.0
97% of the time you
expect this world
0.5
(0.5)
15
18
21
VIX
24
27
Short 1x2 Call Sprd
30
25
20
This is the 3% or smaller
occurrence you want to
protect
15
10
5
(5)
15 18 21 24 27 30 33 36 39 42 45 48 51 54 57 60 63 66
VIX
Source: Societe Generale.
Long 20D Call
35
12
VIX 1x2: An Actively Managed Strategy
2nd Month Option, Roll 1 month prior to expiry
To maximize sensitivity to VIX spot use a 2 month option
Up to 1 month before expiration the PNL profile of a Short 1x2 Call Spread is similar
to a Long Call
If you hold too long the Delta profile will turn negative
NEVER HOLD TO EXPIRATION
Optimal Roll Period
Too Late!!!!!
Source: Societe Generale.
20
VIX & SPX Common Hedges: PNL Comparison
SPX vs. VIX Hedges Cumulative PNL ($MM)
Long SPX 92.5% Put ($100 MM)
Long SPX 92.5/97.5% Put Sprd
Long VIX 20-Delta Call ($1 MM Vega Notional)
Short VIX 1x2 35/20-Delta Call Sprd
20
15
10
5
0
(5)
(10)
Se
p06
De
c06
M
ar
-0
7
Ju
n07
Se
p07
De
c07
M
ar
-0
8
Ju
n08
Se
p08
De
c08
M
ar
-0
9
Ju
n09
Se
p09
De
c09
M
ar
-1
0
Ju
n10
Se
p10
De
c10
(15)
Source: Societe Generale, Bloomberg
Past Performances are not indicative of future returns.
21
VIX & SPX Hedges vs. VIX ETNs and Variance Swaps
Increasing
Leverage
Reference Line
Leverage 10x1
Reference Line
Leverage 3x1
Reference Line
Leverage 1x1
Source: Societe Generale, Bloomberg
Past Performances are not indicative of future returns.
IV. Cross Asset Study
CONFIDENTIAL
23
VIX vs. Credit Correlation
VIX Spot vs. CDX IG
90
80
CDX IG 5Y Spread
250
VIX Index
70
60
200
50
150
40
30
100
CDX IG 5Y Spread
VIX and Credit are typically
correlated since both are
market FEAR INDICATORS
sensitive to those extreme
downside PUT volatilities
300
VIX Spot
20
50
Dec-10
Jun-10
Dec-09
Jun-09
Dec-08
Jun-08
Dec-07
Jun-07
Dec-06
Jun-06
Dec-05
0
Jun-05
0
Dec-04
From a historical
perspective, current VIX
level seems “CHEAPER”
than CDX IG – Current VIX
level back to past pre-crisis
low but CDX IG just in the
middle of past pre-crisis
range
10
Past Tail Risk Events
VIX
CDX IG 5Y
Change
Change
SPX
#
Event
Chg Initial Final pt
% Initial* Final bps
%
1
Gulf War
-20% 16.8 34.0 17.2 103%
2
Russian Default, LTCM
-19% 16.2 45.7 29.5 182% 32
86
54 170%
3
Recession, Tech Bubble
-20% 21.7 34.1 12.4 57% 110
128
18
17%
4
Terrorist Attack
-22% 18.8 42.7 23.9 127% 108
130
22
20%
5 Accounting Scandal, Tech Bubble -32% 18.2 44.9 26.8 147% 119
184
65
54%
6
Bear Stearns Collapse
-19% 16.1 29.4 13.3 82%
45
184 138 306%
7
Lehman Collapse
-42% 19.4 80.9 61.4 316% 137
274 137 101%
8
Sovereign Credit Crisis
-16% 16.6 30.1 13.5 81%
89
123
34
38%
As of 2/17/2011
16.6
79
* Use aggregate bond data for periods 1 to 5 and roll-adjusted CDX IG series for periods 6 & 7
24
What is a better hedge? VIX or Credit?
The “BEST” hedge is not a constant, but tends to be transient over time. One indicator of
value is when the VIX / CDX.IG ratio exceeds two standard deviations.
Since 2005, this signal accurately highlighted the most efficient hedge 81% of the time,
and Outperformance averaged 16%.
Did the ratio signal work?
CDX.IG Spread / VIX Ratio vs. 2 Stanard Dev Bands (6M rolling)
8
7
+ 2-SD
6 (6-mo rolling)
VIX Cheaper
5
4
3
- 2-SD
2 (6-mo rolling)
CDX Cheaper
Dec-10
Jun-10
Dec-09
Jun-09
Dec-08
Jun-08
Dec-07
Jun-07
Dec-06
Jun-06
Dec-05
Jun-05
1
Date
6/16/05
10/5/05
5/1/06
2/12/07
6/7/07
7/19/07
12/5/07
3/5/08
8/15/08
9/22/08
6/3/09
7/14/09
9/21/09
1/22/10
3/18/10
5/7/10
12/17/10
12/22/10
1/14/11
Cheap
at
Hedge
VIX
CDX
CDX
CDX
CDX
VIX
VIX
VIX
VIX
CDX
CDX
VIX
CDX
CDX
VIX
CDX
VIX
VIX
VIX
3-Month % Change
VIX CDX IG
16%
-13%
-23%
0%
19%
18%
20%
12%
44%
92%
22%
6%
13% 108%
-18%
-33%
206%
48%
32%
44%
-6%
-2%
-8%
-27%
-15%
-7%
-40%
-7%
56%
40%
-46%
-15%
Average
Median
Diff
29%
23%
-1%
-8%
47%
16%
-95%
15%
157%
12%
4%
19%
8%
32%
16%
31%
19%
16%
Did Signal
Work?
YES
YES
NO
NO
YES
YES
NO
YES
YES
YES
YES
YES
YES
YES
YES
YES
81% YES
25
Cross-Asset Volatilities
Global Volatility Indexes
During Extreme Market
Uncertainty,
CORRELATION of crossasset indexes rises as well
as their volatilities
120
Gold GVZ
Euro EVZ
SPX VIX
EuroStoxx V2X
Oil OVX
100
80
60
40
20
Source: Societe Generale, Bloomberg
Past Performances are not indicative of future returns.
Feb-11
Dec-10
Oct-10
Aug-10
Jun-10
Apr-10
Feb-10
Dec-09
Oct-09
Aug-09
Jun-09
Apr-09
Feb-09
Dec-08
Oct-08
Aug-08
0
Jun-08
Since VIX is the only
LIQUID LISTED volatility
products, it may be used as
a VOLATILITY TAIL
HEDGING proxy for Other
Asset Classes
26
“Free” Cross-Asset Strangle via GLD/AUD + VIX Strategies
Gold Price vs. ETF Shares Outstanding
430,000
1400
420,000
1350
410,000
1300
1250
400,000
Recent Sharp
Drop in ETF
Shares
390,000
380,000
1200
1150
Jan-11
Sep-10
Jul-10
Aug-10
Jun-10
Gold may be toppy after quadrupling in 10 years
May-10
1050
Apr-10
360,000
Mar-10
1100
Feb-10
370,000
Jan-10
XAUAUD – Buy Gold SPIKE instead of Gold TREND
Dec-10
Long VIX Put – Hedge Bullish (Reducing Vol) Scenario and
Generate Positive Carry
1450
GOLDS
Nov-10
Long Gold / Short AUD (XAUAUD) – Hedge Extreme
Market Downside Risk but Avoid the cyclical Gold Trend
Gold ETF Shr Outstanding
440,000
Oct-10
Strategy Overview:
Significant GLD Redemption recently
Gold still appeals as a “catch-all” hedge against market distress & asset devaluation environment
Australia is one of the top gold producing countries, hence both legs of XAUAUD are exposed to Gold
During crisis, Gold is preferred as a “safe heaven” asset BUT AUD could be under pressure due to its
exposure to China and commodities
VIX Put – Hedge against the worst case for XAUAUD – “RISK-ON” environment
Generates Positive Carry during quiet time as futures ride down the Contango curve
Generates Large PNL during “RISK-ON” when market rallies, volatility & hedging appetite reduces
Source: Societe Generale, Bloomberg
Past Performances are not indicative of future returns.
27
Disclaimer
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completeness. The examples and charts contained in this document are for illustrative purposes only and are not intended to predict,
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