According to us there are few traders/ investors that understand volatility, and there are only a handful that can explain complex volatility themes in a fairly simple way.
This autumn has been an interesting period when it comes to volatility and “crazy” markets. Most investors have had a terrible few months, with several funds shutting down their businesses. Volatility often comes suddenly, and leaves casualties, especially among those that never understood their past success.
Below is a must read, published a year ago, but is if ever more important, by one of the absolutely best people when it comes to volatility, Christopher Cole of Artemis Capital Management.
Volatility as a concept is widely misunderstood. Volatility is not fear. Volatility is not the VIX index. Volatility is not a statistic or a standard deviation, or any other number derived by abstract formula.
Volatility is no different in markets than it is to life.
Regardless of how it is measured volatility reflects the difference between the world as we imagine it to be and the world that actually exists
We will only prosper if we relentlessly search for nothing but the truth, otherwise the truth will find us through volatility.
The Ouroboros, a Greek word meaning ‘tail devourer’, is the ancient symbol of a snake consuming its own body in perfect symmetry. In extreme heat, a snake is unable to differentiate its own tail from its prey, and will attack itself, self-cannibalizing until it perishes.
The Ouroboros is a metaphor for the financial alchemy driving the modern Bear Market in Fear. Volatility across asset classes is at multi-generational lows. A dangerous feedback loop now exists between ultra-low interest rates, debt expansion, asset volatility, and financial engineering that allocates risk based on that volatility. Alchemy is the only way to feed our global hunger for yield, until it kills the very system it is nourishing.
The Global Short Volatility trade now represents an estimated $2+ trillion in financial engineering strategies and share buybacks that simultaneously exert influence over, and are influenced by, stock market volatility. Volatility is now an input for risk taking and the source of excess returns in the absence of value. Like a snake blind to the fact it is devouring its own body, the same factors that appear stabilizing can reverse into chaos. The danger is that the multi-trillion-dollar short volatility trade, in all its forms, will contribute to a violent feedback loop of higher volatility resulting in a hyper-crash.
Thirty-years ago to the day we experienced that moment. On October 19th, 1987 markets around the world crashed at record speed, including a -20% loss in the S&P 500 Index, and a spike to over 150% in volatility. In this paper we will argue that rising inflation was the spark that ignited 1987 fire, while computer trading served as explosive nitroglycerin that amplified a normal fire into a cataclysmic conflagration. The multi-trillion-dollar short volatility trade, broadly defined in all its forms, can play a similar role today if inflation forces central banks to raise rates into any financial stress.
There is no such thing as control… there are only probabilities.
Here, you will find the complete article written by Christopher Cole.