Financial Times – Volatility is becoming an asset class in its own right. A range of structured derivative products, particularly those known as variance swaps, are now the preferred route for manyhedge fund managers and proprietary traders to make bets on market volatility.
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The psychology of markets means that volatility tends to become a broad concern only when equity markets tumble, as they have during the past two weeks.
Wall Street’s fear gauge, the Vix volatility index, which is based on the market’s expectation of the future price of S&P 500 index options, hit a two-year high earlier this week adding to fears that the market is ripe for opportunistic traders.
When volatility rises like this, it is not long before people begin asking if hedge funds and proprietary traders, using complex trading strategies, are profiting from the falls, or in some mysterious way, driving them. Variance swaps are at the centre of their current activity.
Todd Steinberg, head of equities and derivatives at BNP Paribas in New York, said: “Variance swaps isolate volatility and take away all of the other attributes that you would ordinarily have to factor in, such as interest rates, dividends and movements in the price of the underlying asset.â€Â
He pointed out that among the advantages of the contracts are that they are almost as liquid as S&P 500 listed options, with spreads that are just as tight and with smaller capital requirements.
