Disaster Insurance Is Back

CLEVELAND STATE UNIVERSITY |

“Disaster Insurance is Back, if It Ever Left” |

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Mirel Marculetiu |

2/7/2011 |

FIN 615 – Spring, 2011 |

“Disaster Insurance Is Back, If It Ever Left”, by Brendan Conway, The Wall Street Journal, Feb 3, 2011 (Online)

Many portfolio managers are looking for ways to limit losses and maximize potential gains. For the last two years, more and more investors started using the call backspread strategy, a strategy of selling and buying options at the same time, used for hedging against extreme market fluctuations.

Besides the regular hedging techniques, traders also started searching for ways of maximizing wealth in case of stock market crash.

A declining stock market added to the intense social movements in Egypt encouraged investors to buy VIX call options as portfolio insurance strategy. Unlike regular call options, VIX options maximize buyer’s gains whenever the stock market decreases.

Because of their very low price, VIX options are often added to hedging portfolios. The instability in Egypt is now determining speculators to buy VIX calls, call options that benefit when the stock market falls, because they will go upward immediately after the fall.

Reactions

* The article discusses strategies used by investors in today’s unstable economy, not only to hedge against fluctuations, but mainly to take advantage of them and eventually profit from a potential market fall

* Mostly used for this purpose are VIX options, whose puts tend to benefit from rising stock market, and calls from a falling stock market, unlike regular options traded on the market.

* By reading the article I learned that one can hedge in the same direction by buying regular, let’s say put options and VIX call options at the same time, and benefit greatly if their speculation of a falling market of their traded asset happens

* “Backspread” also known as “reverse ratio spread” is a new term I learned from reading the article....