Monday, June 19, 2017

More reconciling with buy and hold

(I'll open with a Janet in case anyone is here for that)


Another weekend Mosque killing, another gap up- Looking good for the Boglehead crowd-

Here is a fundamental question I have for the buy and hold believers:

...First some rambling though, this is based on comparing buy and hold stock (SPY for example) vs selling puts, strangles or buying covered calls, depending on your risk tolerance. (I'm scared to death of upside risk)
Selling puts or strangles is optimized for the underlying trading within the expected range, which is already something Bogleheads seem to expect, "average" market returns, compounded with dividends (to compare to covered calls), etc.
I'll break this down into the 3 cases of down, flat and up markets-

  • In a down market, selling puts (or strangles), or buying covered calls give you a better downside breakeven than stock, whereas buy and hold stock is just max delta on the entire downmove.
  • In a flat market, the short options clearly outperform the non moving underlying and crush dividends.
  • Finally, in an up market the buy and hold stock has the chance to outperform (with unlimited upside :) ), yet it still needs a greater than "expected" move (1 st. dev.) to beat short options (depending on strikes)
Given all this, the buy and hold stock strategy is truly only aiming for greater than expected upside moves,
So why not just buy OTM calls? 

Maybe literally 0 buy and hold Bogleheads care, but I haven't seen this addressed by anyone so it makes me feel like I'm in my corner with my crazy pills.  
Yes I know this is simplified but between OTM calls, deep ITM LEAPS or anywhere in between, you are taking the same position with better leverage.

Just a Monday musing, please forward to a Boglehead so we can check reality!



Wednesday, June 14, 2017

Musings for Short VIX haters

 Here's a little Janet for FOMC day-
Now back to musing and ranting...

Even with two brief days of action, the last month has been a fairly quiet grind after the 17th.  About the only thing to do is leg into more short VIX and read the various articles maligning it.

If you have any long VIX or at least anti-short VIX friends, maybe you can forward this to get their input or to reconcile their ideas-

1. As I see it, short VIX is long equities, long AMERICA.  
ie. VIX is uncorrelated with SPY ~80% of the time.  To all the articles against 'vol tourists' as well as big funds and the feedback loop of short VIX, they fail to note (or really contemplate) the structural interaction with S&P options, thus S&Ps.  If you think short VIX is going to blow up (VIX will spike), then you are just writing an article that equities will correct!  On some level this is the standard financial news level of garbage writing two articles per day instead of one, getting the 'short VIX risk' article as a freebie on top of the 'markets are at a top' article.

2. Given that, yes we know equities will correct and VIX will spike!  Short VIX doesn't mean being all in on short at the money VIX calls, it is a macro outlook/ core position that can be reflected in many kinds of trades with different risk parameters.  Given the option pricing most of these trades are just leveraged equivalents of long equities, with a directional decay component that S&Ps can't replicate.
Boglehead indexing investors don't buy all in out of the money SPY calls, and short VIX traders don't use all their capital on the absolute max risk trades.  Is this complicated to CNBC idiots?

3. Back to my first point of long AMERICA, short fear- these anti-short VIX people should have simultaneous articles against their fundamentals guru Warren Buffett, who spells out the long equities position of betting on American ingenuity, yada yada.  I'm not as big on Warren but most of these idiots are, and his 'bet on America' ideology equals short VIX!  Furthermore you have to be betting against America (not just in the S&P corporation sense)- we have 300bil/ month from central banks pumping into our markets, we can create any money we want, and have a bigger military than the planet if anyone has issues with that structure.. hello?!?

4. One last point- one of the 1st things I internalized early in my financial journey was from Tastytrade- In a liquid two sided market, if you think something is stupid, take the other side! I'm waiting for these anti-short VIX idiots to post a long VIX trade.  I know this is mostly yelling at the wind as .001% of finance writers have any stake in the game (and they note that as an admirable trait) but its just some ammo in the back of my head.  If you think short VIX is so catastrophic, then where is your huge long VIX trade that you are losing on daily?

Somewhere between musing and ranting, oh well.  I'll go back to waiting for some VIX spike to pile more into.

Monday, June 5, 2017

Bitcoin: Is decentralization possible?

Disclaimers- This is all coming from someone who doesn't own any bitcoin or other cryptocurrencies, and I don't have a PhD in cryptography (crypto is insanely complicated at a software level) so I am giving a pass to most of the software questions with crypto.  This is primarily an equity investor perspective on the transition point between the digital side of crypto and where it meets the water's edge of requiring real world resources, and ultimately being influenced by real economics and politics. 
And yes I think this tangentially ties into Short VIX, we will get there!
 

Is Decentralization possible?

I would break the crypto crowd into the groups of true believers/ early adopters and investors/speculators.  However far down the chain from the true believers of a decentralized digital currency, when looking at it from an investment standpoint as a commodity such as gold, there must be some trailing connection back to its original 'value' to justify it's speculative value.  (I'll get into intrinsic value as well)
I understand all or at least some of the vision of the true believers- a decentralized currency which isn't manipulated by central banks, interest rates, and global politics.  This is based on a public ledger which is transparent and accountable for transactions, yet anonymous for individual users.
I don't even want to dispute the main bulletpoints against crypto such as:
  • It isn't backed by anything (neither is any currency, its just public perception)
  • It can be hacked (again not even getting into the software behind it but assuming the hash/algorithms aren't solved like SHA 1 , plus similar hashes back up many non Bitcoin services) 
  • It isn't doesn't scale (Assuming software changes such as soft and hardforks can overcome the maximum block size and current max transactions caps. Again I'm trying to avoid the pure software/ math PhD issues.)
I want to discuss the point where the digital currency meets real world resources and policies , which ultimately tie back to the currency-

I wonder the original vision of Satoshi, if he imagined many people privately running the full blockchain node on their computer, and possibly mining with a backup computer, or even a few computers together in a garage?
Whatever the vision, it very quickly morphed much past that into groups coming together to pool resources and build huge computer farms in cooled buildings/warehouses to mine huge amounts of bitcoin.  Whats even more impressive is the hardware innovation of ASIC processors  which are basically a hardware specifically optimized to compute the Bitcoin hash, effectively making normal mining noncompetitive. 

Here is my first question to Bitcoin true believers-
How can the mining infrastructure and the ideal "decentralization" of node management and mining account for the acceleration of infrastructure/ hash power at the top?
   Unfortunately there is a lot of reading to do to get even close to up to speed with the huge amount of interlocking pieces, but here is a semi quick overview on the ASIC and ASICboost hardware situation.  The key takeaway is the potential patent issue of current or future hardware/software implementations that give an advantage in Bitcoin mining.  This brings real world government and patent law into the "decentralized" digital currency.  Seeing how quickly that came up in the scope of Bitcoin, was interaction with government ever avoidable?

Even if there was no patent/hardware advantage to specific processors, we still must account for the concentration of mining in China, with pools which account for ~60% of blocks mined. 

This comes to my second question-

How does the "decentralized" model account for the natural accumulation of resources at the top, who ultimately influence the software direction of Bitcoin itself?
The biggest example character I see is Jihan Wu who runs one of the largest mining pools and has influence on the software direction of the blockchain.
As the direction of software changes are based on the majority of mining, we see the influence of single actors rising almost organically in what was supposed to be a "decentralized" system.  Again there is a lot of reading to do but given the infrastructure advantage Wu has, his position on potential software forks obviously leans in the direction of an advantage to his own infrastructure system and against any "nuclear" option which reverts the ASIC advantage.


I was going to get into further valuation/ fundamental analysis (which I think is stupid for stocks, so why delve into it for another asset class) but maybe that will be for another article, if anyone cares.
While these questions (which I haven't seen a rebuttal to) point issues at Bitcoin and cryptocurrencies, I think it points out an even more fascinating characteristic of people and economies- the organic ability to centralize.
Despite entropy of the universe and the human condition which has us on the trajectory to destroy ourselves, moments like this show an incredible ability for people to pool resources to optimize, even if the consequence is destroying the underlying ideal of democracy.
There is an incredible parallel here to the trajectory of governments where an initial independent "decentralized" group of people come together, pooling resources to achieve more, while in the process end up throwing away their freedom for "security."  
If Wu didn't do it with Bitcoin it would easily have been someone else, because it is in human nature to optimize even if it means destroying the long term structure (look at smog in China).

If you haven't read enough secondary articles yet, here is a Google Talks of Janis Varoufakis on the 2015 Greek crisis.  At ~20min he summarizes a lot of my thoughts on cryptocurrencies concisely:
Money can be digital, but it can't be apolitical. 

Money is a function of human emotion.  He is speaking to engineers/number people at Google and points out just because money/economics has numbers in it, it is an illusion to think that some algorithm can solve global finance. Money has numbers but is more than a math problem.

And I promised this would tie back to Short VIX-
Given all these points, is decentralization truly possible?  Given the history of the planet for resources to pool, organize and create a top heavy power structure, why would Bitcoin be able to break out of that as long as it is in the rest of our physical world?  There are still people involved. 
Given all of this I truly don't think cryptocurrency has the capacity to take over global finance in the sense that the aforementioned true believers do. That means the true power still lies with central banks, which will ultimately suppress volatility- by printing their way out of a crisis.  
Cryptocurriences aren't centrally managed at the software/scarcity level, and can't print their way out of a crisis.  I try to make Short VIX more than the trade idea of short VXX spreads, it is a world view.  Volatility is overstated, new structures will not be destructively disruptive, things will blow over.

And finally , a wonder Yellen -





Wednesday, May 31, 2017

Having a Core position

 One thing to reconcile when having constant short VIX positions on (at all VIX levels) is the obvious downside risk, and more specifically the average days to expiration on your positions.
A common TastyTrade/ OptionsAlpha/ etc strategy is to put positions on in high IV and to take them off at 50% max profit, or roll at 50% to take off that gamma risk I've discussed in earlier articles.

However, with short VIX as a core position, no matter what my portfolio average DTE is, I will have the same notional risk on at all times.  In this case, is there a difference between rolling out a month with 2 weeks left or just waiting until expiration and re adding the position? 

As long as you are keeping the core position, the early rolling/gamma protection doesn't help your long term returns because you will never be out during the draw down moment.  Furthermore, if the underlying is going to come back up anyway, there isn't much difference from being assigned , and then selling calls back up to the assigned strike and getting out of it.

If your core position is being a firefighter, your risk is always on, and you don't get to pick being off in advance of the week some big fire happens.  The 50% max profit/TastyTrade firefighter is basically taking on a contract position the week after a huge fire, whereas the career firefighter is there the whole time (and getting paid for it).  These last few weeks have been very quiet, we firefighters are just waiting to slide down that pole.

Obviously there is an ebb and flow to this, so for extreme VIX contraction it would make sense to roll early and bring in more premium if the current contract is mostly squeezed out- But in general, if we are just playing it for theta (at this low 10-11 VIX) then it might be best to just keep the position on and avoid doubling your commissions/fees in rolling.  With SVXY specifically, the illiquid long options make it rough to close your very profitable spread early. (I am shifting to a lot more VXX call spreads though, before you yell in protest)

Just some food for though when contemplating the full short VIX lifestyle, ok now back to the 9 handle!


Friday, May 19, 2017

The great part about down days


A little action on 5/17- SVXY down over 18%.  I'm sure everyone was all hands on deck so I try to post these concept articles back when we have a little lull in the storm.  As I mentioned in the 'comparing to buy and hold,' that kind of 100% short VIX stock risk is apples and oranges.  My short puts with half the account in cash had me down ~5% (compared to the 18%), which may seem rough depending on your risk tolerance, but here is why I wasn't worried and I'm actually happy and excited-
  • This is why we have counter parties.  If the bears don't get their day every once in a while, how do we have a market?  I was feeling a little sorry for the bears/ VIX longs when this 5/17 spike was over the very next day, as least give them a little longer!  This is like selling scratchy lotto tickets to addicts, you can sell them $100 in tickets but they have to get at least $10 back in wins to keep the rush going. 
  • This is getting ready/ approaching actual entry points for more conservative short VIX strategies, where we can deploy more capital.  Again I'm astounded at the mental fortitude of traders waiting for VIX>20 as an entry point, I agree that is the highest yield type of entry, and I'm waiting for those as well to go all in, but I can't just wait on the hope that that condition will happen.  No investment system should have hope as a core strategy. 

An earlier "fundamental" investor version of myself would be concerned at a dip- "what did I do wrong," "what did I miss?"

To me this is the same learning curve as losing your queen in Chess-
As a beginner, you miss some tactic and your queen gets captured- complete mental shutdown-
You lose scope of the whole game (which is probably over to be fair), although I have seen plenty beginner games where they drop pieces back and forth and still miss huge winning chances.

Fast forward to having deeper tactical and strategic planning.  They take your queen, but that locks them into a mate in 3 which you already saw!  We are down a queen this turn, like we are down 5% today, but we are set to recover and use our cash position in higher implied volatility.

In terms of creating a core short VIX strategy, we accept big down days as inevitable, just like you plan out your next 4 chess moves which involve a sacrifice in order to force a win.


Finally heres a little Janet for Friday - Does anyone else like these or am I just keeping myself giggling?


Thursday, May 18, 2017

Invocation for Vol Contraction



Hail Janet full of balance sheets, our short VIX is with thee
Blessed art thou among traders
and blessed is the buying of the dip, QE
Holy Janet, mother of short VIX,
pray for us in long equities,
now and in the hour of our dip.

AMEN


 

Monday, May 15, 2017

State Dependent Learning and Practice


Here is another poker/ chess metaphor-

One of my early sorrows was the futility of "practice" in many disciplines as the performance environment is so different-

  • Chess or other games on the computer, then translating to a real tournament setting- different timing structure, serious and quiet atmosphere, hunger, exhaustion
  • Poker on the computer, several tables, quick hands, then going to a live event- much slower, each hand is more heavily weighted, thus increased variance, similar exhaustion, competition
In cognitive science/psychology, this is State Dependent Learning, where retrieval is more efficient when you practice in the same mood/ state.

While you can get many hours of practice, you will always miss out on practicing acclimating to tournament factors. I lamented this as "pros" who play full time, almost exclusively tournaments/ professional settings, get to effectively make their 'practice' a pure tournament setting and can fully acclimate to the performance environment.
How can we improve if no matter how much we practice our mechanics, our psychology will ultimately crumble as it hasn't been exercised at all?

What does this have to do with options?

I think trading real markets takes away the "performance" setting practice edge from the 'pros'.

We are all trading the same live market, we don't trade a 'practice crash' while 'pros' are trading a real crash.
Furthermore, 'pros' are often hamstrung by institutional risk management (usually related to mega leverage, counterparty risk) and other factors that would force them to close positions that could ultimately self correct.  This can be argued as a performance setting advantage to small retail traders, as 'pros' must react to several new performance setting issues that we aren't stuck with.  In this way the professional performance setting might still be considered different, but I think we can see this setting as worse than the chess and poker examples. 

This is just my food for thought for the small guys.  The pros aren't that smart, and our life time frame is so small that we winners are all just outliers.