Laskentatoimen ja rahoituksen yksikkö, 2019
Laskentatoimi ja rahoitus
Master's Degree Programme in Finance
This study is focused on one particular option strategy, volatility spread trading strategy. There are a large number of academic studies done and evidence about the profitability of volatility spread trading and whether it provides a signal of option mispricing on several currencies, stocks and indices. But does volatility spread trading strategy survive in real-world circumstances? This study concentrates on the authenticity of volatility spread trading returns on Invesco QQQ Trust Series 1 ETF (QQQ), which is an exchange-traded fund tracking the Nasdaq 100 index without the financial sector.
Long and short straddles are used to implement volatility spread trading strategy on QQQ in the following way: long positions in options are entered with a positive volatility spread, and short positions in options are taken with a negative volatility spread. The examination period for the study starts from May 2006 and lasts to August 2018, consisting of 147 holding periods to create long and short straddle portfolios by combining call and put options. Furthermore, the authenticity of volatility spread trading returns are considered by embedding the cost of bid-ask spreads and the impact of initial margin requirements into the results. Finally, the performance of volatility spread trading strategy is studied in bear market conditions.
Empirical findings suggest that the volatility spread is a demonstration of option mispricing, and it can be a highly profitable trading strategy in theory. However, when transaction costs are incorporated into calculations, the profitability of volatility spread trading is significantly dropped. In addition, the results indicate that volatility spread trading strategy performs better during the 2008 global financial crisis.
option returns, option strategies, volatility spread, volatility spread trading