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Forum Applications Trading Strategies (Algo Quant)

Questions on Intra-day volatility arbitrage strategy (VolArb)?

  1. moliu9394Participant 2012-08-13 at 3:41 am

    http://www.numericalmethod.com/wiki/numericalmethod/wiki/ModelVolArb#

    May I konw what do you mean by “buying the bigger volatility and selling the smaller volatility”?

    My interpretation is to buy an option and delta hedge it so that it’s market neutral ( total delta is 0).

    However in the “ModelVolArb Summary ” , it states that “This strategy trades on a synthetic mean-reverting pair (hedge ratio ¦Â) by selecting an appropriate frequence difference (H). For example, a synthetic pair made of AUDNZD and GBPJPY.”

    There is no option on the spread of “AUDNZD -GBPJPY” .

    So what actually do you trade on ?

  2. RyuParticipant 2012-08-13 at 10:49 am

    Given any price time series, the volatility changes depending on how often you take an observation. For instance, suppose, for AUDNZD, you use the hourly data to compute volatility (V_H) and the daily data to compute volatility (V_D). You will see that V_H is bigger than V_D statistically. This is a property of any mean-reverting asset/price process, which can be proved mathematically.

    So, if you can replicate V_H by buying and selling AUDNZD, and replicate V_D by buying and selling AUDNZD. You are expected to make a profit proportional to (V_H – V_D) > 0.

    For a pair (AUDNZD, GBPJPY), the concept is the same. We apply it to the spread adjusted by beta, such as, Z = AUDNZD – GBPJPY. So, we are buying and sell AUDNZD and GBPJPY, according to the volatility difference signal.

  3. moliu9394Participant 2012-08-14 at 2:16 am

    Thank you. Yes, it makes sense to make a profit by replicating (V_H-V_D).

    Because Variance= (sum of D^2)/(n-1), or Vol = sqrt( variance) where D is the distance to the mean.

    To replicate V_H or V_D by selling/buying the underlying asset does not seems straightforward/easy to me.

    Can you please shed a light on how to replicate V_H or V_D?

    Did you mean, buy/sell underlying asset at low/high price based on its mean-reversion?

  4. RyuParticipant 2012-08-14 at 2:40 pm

    Yes, it is about buying/selling the underlying asset(s) at low/high to replicate V_H and V_D. We do not disclose how to do this in public. The model is only sold as an optional add-on to AlgoQuant.

  5. moliu9394Participant 2012-08-15 at 3:15 am

    Thanks, Finally I figured out how to replicate the Vol.

  6. RyuParticipant 2012-08-15 at 11:43 am

    OK. That’s good. There are a lot more details to the actual trading strategy other than replicating the vols.

  7. sid777Participant 2013-07-03 at 7:06 am

    Eg,

    Hourly vol > daily vol: buy/sell when price less/more than mean

    Is that the same as replicating vol?

  8. RyuParticipant 2013-07-03 at 1:33 pm

    It depends on how you compute ‘vol’.

  9. sid777Participant 2013-07-04 at 4:15 am

    Vh = sum (xt-xtm1-mean)/(n-1) Vd = sum (xt-xtm24-24*mean)/(n-1)

    Where x are hourly close. xtm1 is xt lag 1 xtm24 is xt lag 24

    Is this correct?

  10. RyuParticipant 2013-07-04 at 3:38 pm

    I mean, there are many ways to compute ‘vol’, public or proprietary.