#5 – FX Carry Trade
Daniel, Hodrick, Lu: The Carry Trade: Risks and Drawdowns
http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2486275
Abstract:
We examine carry trade returns formed from the G10 currencies. Performance attributes depend on the base currency. Dynamically spread-weighting and risk-rebalancing positions improves performance. Equity, bond, FX, volatility, and downside equity risks cannot explain profitability. Dollar-neutral carry trades exhibit insignificant abnormal returns, while the dollar exposure part of the carry trade earns significant abnormal returns with little skewness. Downside equity market betas of our carry trades are not significantly different from unconditional betas. Hedging with options reduces but does not eliminate abnormal returns. Distributions of drawdowns and maximum losses from daily data indicate the importance of time-varying autocorrelation in determining the negative skewness of longer horizon returns.
#5 – FX Carry Trade
#8 – FX Momentum
Orlov: Currency Momentum, Carry Trade and Market Illiquidity
http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2480429
Abstract:
This study empirically examines the effect of equity market illiquidity on the excess returns of currency momentum and carry trade strategies. Results uniformly show that equity market illiquidity explains the evolution of strategy payoffs, consistent with a liquidity-based model. Comprehensive experiments, using both time-series and cross-sectional specifications, show that returns on the strategies are low (high) following months of high (low) equity market illiquidity. This effect is found to withstand various robustness checks and is economically significant, approximating in value to one-third of average monthly profits.
#9 – FX Value – PPP Strategy
Menkhoff, Sarno, Schmeling, Schrimpf: Currency Value
http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2492082
Abstract:
We show that measures of currency valuation derived from real exchange rates contain significant predictive content for FX excess returns and spot exchange rate changes in the cross section of currencies. Most of the predictability stems from persistent cross-country differences in macroeconomic fundamentals. This suggests that currency value mostly captures risk premia which vary across countries but are fairly static over time. Moreover, our results do not support the standard notion that trading on simple measures of currency value is profitable because spot exchange rates are reverting back to fundamental values. When decomposing real exchange rates into underlying macroeconomic drivers, however, we find that refined valuation measures relate more closely to "currency value" in the original sense in that they predict both excess returns as well as a reversal of exchange rates.
#237 – Dispersion Trading
Lisauskas: Dispersion Trading in German Option Market
http://arno.uvt.nl/show.cgi?fid=115343
Abstract:
There has been an increasing variety of volatility related trading strategies developed since the publication of Black-Scholes-Merton study. In this paper we study one of dispersion trading strategies, which attempts to profit from mispricing of the implied volatility of the index compared to implied volatilities of its individual constituents. Although the primary goal of this study is to find whether there were any profitable trading opportunities from November 3, 2008 through May 10, 2010 in the German option market, it is also interesting to check whether broadly documented stylized fact that implied volatility of the index on average tends to be larger than theoretical volatility of the index calculated using implied volatilities of its components (Driessen, Maenhout and Vilkov (2006) and others) still holds in times of extreme volatility and correlation that we could observe in the study period. Also we touch the issue of what is (or was) causing this discrepancy.
Carrasco: Studying the properties of the correlation trades
http://mpra.ub.uni-muenchen.de/22318/1/Studying_the_Properties_of_the_Correlation_Trades.pdf
Abstract:
This thesis tries to explore the profitability of the dispersion trading strategies. We begin examining the different methods proposed to price variance swaps. We have developed a model that explains why the dispersion trading arises and what the main drivers are. After a description of our model, we implement a dispersion trading in the EuroStoxx 50. We analyze the profile of a systematic short strategy of a variance swap on this index while being long the constituents. We show that there is sense in selling correlation on short-term. We also discuss the timing of the strategy and future developments and improvements.
Choi: Analysis and Development Of Correlation Arbitrage Strategies on Equities
http://erasmus-mundus.univ-paris1.fr/fichiers_etudiants/5007_dissertation.pdf
Abstract:
After the two years of studies in the area of mathematical finance at Univ ersity of Paris 1, I had a chance to work with an asset management team as a quantitative analyst at Lyxor Asset Management, Société Générale in Paris, France. My first task was to develop an analysis of the performances of the funds on hidden assets where the team's main focus was on, such as Volatility Swap, Variance Swap, Correlation Swap, Covariance Swap, Absolute Dispersion, Call on Absolute Dispersion (Palladium). The purpose was to anticipate the profit and to know when and how to reallocate assets according to the market conditions. In particular, I have automated the analysis through VBA in Excel. Secondly, I had a research project on Correlation trades especially involving Correlation Swaps and Dispersion Trades. This report is to summarize the research I have conducted in this subject. Lyxor has been benefiting from taking short positions on Dispersion Trades through variance swaps, thanks to the fact that empirically the index variance trades rich with respect to the variance of the components. However, a short position on a dispersion trade being equivalent to taking a long position in correlation, in case of a market crash (or a volatility spike), we can have a loss in the position. Thus, the goal of the research was to find an effective hedging strategy that can protect the fund under unfavorable market conditions. The main idea was to apply the fact that dispersion trades and correlation swaps are both ways to have exposure on correlation, but with different risk factors. While correlation swap has a pure exposure to correlation, dispersion trade has exposure to the realised volatilities as well as the correlation of the components. Thus, having risk to another factor, the implied correlation of a dispersion trade is above (empirically, 10 points) the strike of the equivalent correlation swap. Thus, taking these two products and taking opposite positions in the two, we try to achieve a hedging effect. Furthermore, I look for the optimal weight of the two products in the strategy which gives us the return of the P&L, volatility of the P&L, and risk-return ratio of our preference. Moreover, I tested how this strategy would have performed in past market conditions (back-test) and under extremely bearish market conditions (stress-test).
