short gamma
Post on 08-Apr-2018
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8/6/2019 Short Gamma
1/1
Trade Idea : Short gamma at the front end of the curve
Trade: Sell 100MM 6Mx2Y swaption straddles (atmf, strike = 3.57%)
Buy 67MM 1Yx2Y swaption straddles (atmf, strike = 3.86%)
The trade is vega neutral and should be actively delta hedged
Why do the Trade:
1) During a Fed pause shorter term rates tend to become more stable and delivered volatility
tends to drop. Chart 1 shows the 2-month delivered vol on 2Y swap rates during the first Fed
pauses averaged over the last 2 easing cycles. Dates used: 12/11/01, 11/17/98
2) During a Fed pause, uncertainty about the Feds actions get pushed out and implied vol for
longer expiries increases relative to shorter ones. Chart 2 shows the implied vol spread between
1Yx2Y and 6Mx2Y during the first Fed pauses averaged over the last 2 easing cycles. Dates
used: 12/11/01, 11/17/98
Chart 1
2-month delivered volatility on 2 year swap rates
4
5
6
7
8
9
10
11
0 25 50 75 100 125 150
Days following a Fed pause
bp/day
Current 2-month delivered vol
2-month delivered vol on 2Y yields during the first Fed
pause averaged over the last 2 easing cycles
Chart 2Implied Vol Spread
-0.3
-0.1
0.1
0.3
0.5
0 10 20 30 40 50 60
Days following a Fed pause
bp/d
1Yx2Y- 6Mx2Y
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