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Correlation Trading and Risk Management

Day One

Refresh Foundations

  • From single underlying to multi underlying
  • Non normality: "good" and "bad"
  • Jumps and Feedback loops
  • From market prices to probability distributions
  • Joint and marginal distribution concepts

Correlation vs. covariance, implied vs. realized

  • Unstable statistics
  • Non normal behaviour and Feedback loops
  • Other dispersion statistics
  • Examples and case studies

Workshop 1: calculating and analyzing historical statistics

Key products: Baskets and OBBOs

  • Crossgammas and thetas
  • Single Factor Modelling
  • Multi Factor Modelling
  • Implied Correlation

Workshop 2: single factor pricing approximation vs. multi factor Montecarlo

The crossgamma conundrum

  • The equations
  • Common misconceptions and their reasons
  • Typical portfolio position

Workshop 3: short theta, short crossgamma?

Workshop 4: OBBOs in depth

Multi factor pricing with local volatilities and Gaussian copulas

Workshop 5: build a Gaussian copula, compare to local vol multi factor pricing

Day Two

Dispersion trading

  • Correlation skew
  • Types of dispersion strategies
  • Dynamics of convex risks
  • Approximate formulas and their shortcomings
  • Current markets
  • Dispersion as a hedge

Workshop 6: vega dynamics of dispersion strategies, a simple correlation skew model

Key products: WO, BO and outperformance options

  • Cross gammas and corr vegas
  • Skew exposures
  • Risk dynamics and convexities
  • Multi Factor Modelling
  • Approximations

Workshop 7: risk dynamics and skew exposures of WO, BO, and spread options

Key products: Realized correlation swaps

  • Analysis
  • Current markets and positions

Challenges in marking correlation and measuring its risk

  • Different measures and their shortcomings
  • Using lambda
  • Marking and reserving issues
  • Stress scenarios

Workshop 8: impact of marking policies on Greeks

Correlation markets

  • History and current situation
  • Retail structured flows
  • Example and discussions of highly exotic payoffs
  • Institutional and Hedge Fund flows
  • IDB Broker OTC markets
  • Structural positions: typical exposures, impact on other markets
  • Term structure and skew pressures

Running correlation risks

  • Crossgamma and correlation Vegas behaviour of portfolios
  • Dynamic hedging: issues, thetas, non-normality, correlation skew
  • Convexities, higher order and path dependence
  • Proxy hedging, hidden correlation risk
  • Pitfalls and horror stories

Correlation skew modelling

A survey of existing approaches

The quantos and others: equity/forex correlation

  • Simple yet not so simple
  • Market impact and examples
  • A few words on fixed income and hybrids

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