Vol arb, or volatility arbitrage, is buying undervalued alternatives and selling options, in order to profit in the advantage that the markets have currently quoted for a certain reason. It is pretty much trying to match orders and capitalize on mispricing. Buy em when it is low sell em when it is high.
This is a market manufacturing egy which only market makers can employ since they receive the spreads. Retail will find it tough to use, because the spreads should have priced in the status.
The form needs to be of either collar or butterfly or exposed long wings, so when market crash, it will become default profitable. (This is may not be how market makers trade, but is how I'd like my portfolio to be egies around).
However, there can be several derivable properties from using this method. The method of usage customised to my own MO is still a work in progress and under investigation.
Forged for analyzing, reality that market makers are always being struck by buy side and retail, suggests that they may be handling a risk averse portfolio choice problem, hence how they handle risk and protect position is perhaps the key to options position management.
I have a little inkling of how to adapt some of what they do to get a more restrictive mo, to trade volatility.
However, more work is to be performed for substantiating the results with this particular mo
Notice in the movie Dr Sheldon said, relationship many times, and the single thing that's unknown is two current price, and volatility, and current price is given by market, therefore in the model that the only one potential to adjust is implied volatility input. Due to the if two options are rather overpriced and underpriced, not factoring in the volatility skew, the fair volatility should be in-between?
Sources of information,
Sheldon natenberg.
To be continued.