Alpha Exchange

While the SPX has enjoyed a banner year in 2024, a series of risk events have mattered, including the August 5th spike in the VIX and option pricing uncertainty into the US election. Credit spreads have generally behaved in benign fashion, however. What will 2025 bring for the world of credit and what risks should we pay attention to? With this in mind, it was a pleasure to welcome Dominique Toublan to the Alpha Exchange. Now the Head of Credit Strategy at Barclays, Dom landed landed on a credit derivatives desk in 2007. With a deep background in physics, Dom quickly saw that while derivative products may utilize some of the complex equations that underpin the physical sciences, markets are prone to episodes of disorder with unpredictable outcomes.

Our conversation first considers the behavior of macro credit products in the period before and after US Election. Here, Dom shares that the same vol premium observed in equity options was visible in both credit spreads and credit implied vol as well. In the aftermath of the Election, Dom sees strong, ongoing demand for US spread product with a global buyer base looking less at whether spreads are wide or tight but for all-in yield, pointing to Taiwan life insurance companies for example. In evaluating the risk premium of credit spreads, Dom argues that while valuations are a bit tight, ongoing inflows should continue to support the market. Acknowledging there are some macro headwinds, he doesn’t see them as strong enough to be disruptive.

Lastly, we talk about the progress made in gaining credit exposure through a systematic, factor-based approach. Dom sees this as an exciting time of product development, calling it the equitification of credit. With considerably more data now available and with the advent of credit ETFs, the market has embraced portfolio trading, greatly facilitating risk transfer. Along with this, the credit market is incorporating the principles of factor exposure, long a part of the equity market.

I hope you enjoy this episode of the Alpha Exchange, my conversation with Dominque Toublan.

We are back, with installment number 2 of “20 Things to Do Before You Ask for a Price”. It’s a to-do list for the equity derivatives salestrader who chooses to be a relevant and constructive part of the option risk transfer process that a buy-side client and sell-side trader engage in. Small trades – like buying a pack of gum – can be consummated quickly. Large trades – like buying a house – typically take a while. But large trades that are borne in a moment’s notice – that’s a unique thing with unique risks. Things 6 through 10 are about quarterbacking trades to completion in the context of being short information asymmetry.  I hope you enjoy and find this useful.

6. Is the order outright or delta neutral?  This dictates speed of response needed to the client. There’s more time on delta neutral orders.
7. Check option market depth. Evaluate the screen market using OMON function.  How wide are the screen markets?  Is the option better bid or offered? 
8. Check volume. Use the OMST function to see option volume in the name and that line today.  Check open interest in that line to see if the trade is opening or closing.
9. What is the option delta?  What is the share delta?  What is share delta as % stock volume?  Note that low delta options can be challenging to sell from a risk standpoint and that high delta options can be difficult from a stock liquidity standpoint.
10. Check earnings. When does the stock report?  Does this option order comprise a report date or other important release of company information?  Run the ERN function to look at historical impact of earnings announcements.  

I wanted to welcome you all to a new, 4-part series of the Alpha Exchange, “Twenty Things to Do Before You Ask for a Price”.  In short, this is my thinking on what a derivatives salesperson ought to do instinctively and nearly instantaneously in his or her interaction with a trader colleague being asked to price option risk for a client. These 20 things constitute a real time to do list for the salesperson that adds alpha to the process of price discovery and can allow the trader to take more risk by mitigating certain kinds of risks.  In this short podcast, I share the first 5.  I hope you enjoy and find this useful.
 

1. Know the client.  Who is the client, what is desk relationship and what are the client’s expectations? This starting point is a critical component of quarterbacking the price discovery and execution process. Every client is unique.
    
2. Know the risk environment.  Is vol better to buy or are clients dumping options? What is the backdrop for the commitment of capital around the street? This is critical to managing expectations.
    
3. What motivates the specific trade?  Is the client likely buying or selling vol?  Is he/she opening, closing or rolling?
    
4. What is the stock?  How well does the stock trade?  Is there news out in the stock?
    
5. Buy yourself time.  If it is an off-the-run name with a ticker you have never heard of, let the client subtly know you have never heard of it (nor should you have).  This provides a bit more time for the trader.

A resounding Trump win. A collapse in vol. Bitcoin “number go up”. And up. And up. The French Whale on Polymarket got paid. A star was born in Scott Jennings. The Fed eased. And, Powell, in the words of DiCaprio in Wolf of Wall Street said, “I ain’t f’n leaving”.  That’s the summary. But there’s lots more to explore and in this short pod I aim to provide you with some food for thought on the risk front. Markets have been well behaved and the VIX spiraled lower as most expected it would on November 6th. Still, there are plenty of risks on the horizon and we ought to recognize what volatility is all about. It’s how the market processes change. And it’s pretty difficult to argue that we have not just experienced profound change in the leadership and governing philosophy of the United States. Taxes and tariffs, regulation and immigration, foreign policy and Fed policy. I finish the discussion with a recommendation to stay quite long, but also spend a little premium on a put spread overlay. It feels like a small price to pay for sleep at night insurance. I hope you find this interesting and useful.  Be well.

Of all the concepts focused on throughout the discussions hosted on the Alpha Exchange, the notion of “carry” is one of my favorites. In its most basic definition, carry measures the income or cost to holding an asset in the steady state, when nothing changes. Underpinning the assessment of value in any option trade or strategy is a view on the favorability of carry at a given point in time. Can I own options for free or at least at meaningful discounts to their value? Mr. Market makes this very unlikely.  Can I be especially well compensated for being short optionality? These are challenging questions, worthy of careful study. And in this context, it was a pleasure to welcome Shailesh Gupta, the Head of Structural Alpha at Simplify Asset Management to the podcast. Our conversation explores areas of carry in the market, why they exist, how they can be harvested and what can go wrong in the process. Shailesh shares his views on the pricing of interest rate volatility, where the vol risk premium has been especially high and how that fits into product design at his firm’s ETF platform. We talk also about risk – including the crowding episode in VIX products in 2017 leading into the XIV event of 2018. I hope you enjoy this episode of the Alpha Exchange, my conversation with Shailesh Gupta.

It was a pleasure to host a discussion with Meb Faber, the Founder and CEO of Cambria Asset Management. Our conversation begins with the question of whether it’s a good idea to buy the market at an all time high. To this, Meb argues it’s actually a great idea, pointing to the data and that markets in an uptrend continue to move higher.

We incorporate the notion of a trend following strategy, which Meb illustrates can be helpful in managing the inevitable and substantial drawdown which forces many investors out of the market and destroys the value of compounding in the process. No strategy is perfect, and trend following can underperform during sideways, choppy markets. But it has proven important to cut off the deep left tail with reasonable success. We also explore the work Meb has done on shareholder yield, a strategy that he’s passionate about and argues works particularly well in foreign and emerging markets.

Lastly, we talk about that a vastly under-appreciated aspect of return generation in investing: taxes. The team at Cambria is doing some interesting work on this front, utilizing a feature of the code that helps investors diversify risk in a tax efficient manner. I hope you enjoy this episode of the Alpha Exchange, my conversation with Meb Faber.

Is Trump in the price? Wall Street is asking this question. In this podcast, I walk through how the market prices implied volatility around the US Election, focusing on the SPX, TLT and even DJT. As option premiums are much higher than justified by recent realized, there’s an enormous vol risk premium, the result of a withdrawal of vol supply. There’s interesting information coming from betting sites like Polymarket and early voting data as well that might help us better understand the election probabilities and the implications for how the market prices options. Lastly, I consider the relatively rare co-existence of a high VIX but low SPX implied correlation and what that means. I hope you enjoy this discussion and welcome your feedback. Have a great week.

In this short podcast, I make the case for doing what doesn’t come naturally - taking defensive action when times are good. The first portion of the discussion assesses event risk premium into and after consequential macro events like Brexit and prior US elections. The main shared attribute is that implied vol remains elevated into the event, even in the face of muted realized volatility. A second attribute is that post event, implied vol falls. While the same playbook may be relevant in 2024, I argue that overlaying market-based insurance via SPX put spreads out to year end is compelling given the pricing and unique set of forward-looking uncertainties coming our way and the reality that liquidity conditions can change very quickly. I hope you find this podcast interesting and useful.

In China, the “vol shot” heard round the world occurred recently with the Chinese government throwing the kitchen sink at the economy and market, seeking to revive the relatively lifeless patient. As it usually does, at least temporarily, it worked. Insofar as asset price reaction that is.  An explosion in volumes ensued as did the classic “stock up vol up” dynamic made most famous in 2021 during the Meme stock episode. In this short pod, I review the five characteristics of price/vol spirals, their implications and how these unique episodes resolve themselves. I also cover US Election risk and how its impacting the VIX. I hope you enjoy and find this useful.

Option prices - by incorporating time (expiry) and distance (strike) - give us many more dimensions than a mere flat price like the SPX or a single stock. If the stock market speaks, then the option market sings. It's my strong contention that option prices are singing out loud right now, begging for attention. The market was largely unchanged on the week, but there were some meaningful developments in the price of options – on gold, on crude and on the VIX – that tell us something about an emerging discomfort and perhaps a view that stock prices at all-time highs do not have much margin of safety in this environment. What I highlight in this podcast is that hedging costs can be a function of the market's ability to provide the capital to absorb loss. The Election and a very unsettling geopolitical backdrop make this more challenging.  I hope you find this helpful.