dispersion trades

8/20/2019 Dispersion Trades

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Dispersion TradingTrade Dynamics, P&L Drivers And OurOutlook for S&P and SX5E Dispersion

Credit Suisse Equity Derivatives Strategy, May 2015


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Key Points

Investors can go short correlation through building a portfolio of short indexand long stock volatility– a successful carry trade over the last 10 years

Volswap-to-Volswap dispersion has replaced Var-to-Var after the 2008financial crisis as a lower-risk alternative to trading dispersion

Due to particular trade dynamics, you would ask for larger expectedcorrelation P&L before embarking on vol-to-vol dispersion– the recent pushin implied correlations may provide the right incentive

Other factors that impact potential dispersion P&L: neutral to positive marketperformance and extended valuation multiples, and a higher index volatilityskewS&P dispersion ranks high on all factors; SX5E has a more mixed outlook

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A Guide To Dispersion TradingHow To Build A Correlation Exposure


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What’s Implied Correlation? Implied correlation corresponds to the trade-off between an index’s volatility andthat of its single stock constituents. Although there is a more correct (but morecomplex!) formula, for a well diversified index I composed of n stocks with

weights wi and volatilityσi, correlation is usually approximated as:

Implied correlation is derived from implied volatilities or varswap and volswapquotes. Realised correlation corresponds to the actual, average level of pairwisecorrelation realised in the index over the consecutive periodEquity correlation is typically positive, and its distribution more stable (normally

distributed) than volatility, which exhibits large skewness and kurtosis:

4

=

S&P CorrelationImplied3M

Implied6M

Implied1Y

Realised3M

Realised6M

Realised1Y

ImpliedVol 6M

RealisedVol 6M

Average Since 1996 42.1% 44.7% 46.2% 32.3% 32.4% 32.5% 20.0% 17.7%Std Dev 11.9% 11.7% 11.7% 12.7% 12.2% 12.1% 6.0% 8.5%Median 42.2% 45.4% 46.8% 30.6% 30.7% 30.5% 19.2% 15.8%Min 8.1% 11.7% 14.5% 8.0% 6.3% 6.1% 10.3% 7.2%Max 81.6% 77.3% 77.5% 75.6% 71.1% 61.9% 55.1% 58.2%Skewness 0.1 -0.1 -0.1 0.9 0.9 0.6 1.3 2.2 Kurtosis -0.2 -0.3 -0.4 0.9 0.7 -0.2 3.1 6.5


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S&P Correlation History

5

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

2005 2007 2009 2011 2013 2015

Implied 6M

Realised 6M


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SX5E Correlation History

6

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Implied 6M

Realised 6M


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Why Go Short Implied Correlation? (1)

Due to supply and demand imbalances, implied correlation tends to bepriced expensively− Index volatility is typically pushed higher by systematic equity hedgers− Single stock volatility is cheapened by systematic stock overwriters− Since 1996, S&P 6M implied correlation has averaged 45% when realised has

averaged only 32% A theoretically great carry trade:− S&P 6M implied vs consecutive realised correlation has been positive 80% of the time

since 2005 with average “P&L” of 11 correl points− Worst loss has been 30 correlation points in 2008

7

S&P (1997-2015) SX5E (2009-2015)Correlation P&L 3M 6M 1Y 3M 6M 1Y

Average 9.5% 11.6% 12.2% 5.1% 6.5% 8.4%Median 10.2% 13.2% 13.2% 5.7% 7.7% 8.3%Max Loss -29.9% -29.6% -24.1% -38.9% -20.7% -11.0%5% Percentile -10.4% -10.2% -8.0% -15.2% -14.1% -4.9%% Positive 81% 82% 78% 66% 73% 80%


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Why Go Short Implied Correlation? (2)

8

-40%

-30%

-20%

-10%

0%

10%

20%

30%

40%

50%60%

1997 1999 2001 2003 2005 2007 2009 2011 2013

SPX

SX5E

6 M

I m p

l i e d M i n u s

C o n s e c u

t i v e

6 M

R e a

l i s e

d C o r r e

l


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Implementing a Correlation Trade

Prior to 2008: short index variance vs long single stock variance, typicallyin a theta-weighted basket; correlation swaps

Post 2008: short index vol swaps vs long single stock vol swaps, after the2008 financials collapse showed the inherent risk for market makers inbeing short single stock variance

Sector correlation trades: index vs sectors with vol or variance swaps;typically when sector rotations drive inter-sector correlations lower, andintra-sector correlations higher

All approaches lead to imperfect exposure to correlation…

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Var-to-Var Dispersion: the world before 2008

In a typical, pre-2008 dispersion trade you were:− Short a variance swap on an equity index with strike K I, realised volσI, and notional NI− Long a portfolio of variance swaps on the index constituents, with strikes Ki (0


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Vol-to-Vol Dispersion: A Less Risky Alternative

After 2008, single stock variance swaps were replaced with volatilityswaps with lower embedded tail risk

Vol-to-Vol dispersion trade P&L can still be decomposed between acorrelation exposure and volatility exposure, but:− Correlation component now depends on the square root of correlation, ie non linear exposure

to correlation− Volatility component depends on single stocks’ realised volatilities, not variance − Overall a less risky P&L than var-to-var (exposure to average vol, not average var, and

concavity of exposure to correlation cushions losses during correlation peaks)

11

& − ∗=


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Vol-to-Vol: Profitable, But Imperfect Correlation Trade

Strongly, but not perfectly exposed to correlation:− Equation in slide 3 is only an approximation− Typically investors go long only top 50 names in S&P and most liquid names in SX5E vs

short the index (like we do in backtests below)− Single stock volatility scaling factor

Dispersion P&L: between 1 vega (SX5E) and 1.4 vega (S&P) medianP&L, for circa 70% positive tradesLess favorable P&L to Loss ratio than pure correlation P&L due to crossexposure with volatility, but equivalent to short index variance or volatility

12

For 100 VegaCorrelationP&L

DispersionP&L -

Varswap

DispersionP&L -

VolSwapShortIndex Var

ShortIndexVol

CorrelationP&L

DispersionP&L -

VarswapDispersion P&L -

VolSwapShortIndex Var

ShortIndex Vol

Average 11.1% 64 51 231 236 8.0% 217 78 288 206 Median 13.4% 172 143 445 374 8.9% 155 98 457 319Max Loss -29.6% -3478 -1970 -5483 -3486 -27.3% -469 -555 - 4072 -28795% Percentile -15.9% -550 -584 -1532 -1547 -12.8% -158 -271 - 1319 -1291% Positive 80% 79% 73% 82% 78% 78% 86% 70% 79% 71%Median P&L / Loss 0.8 0.3 0.2 0.3 0.2 0.7 1.0 0.4 0.3 0.2

S&P 500 (2005-2015) SX5E (2002-2015)


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Vol-to-Vol Dispersion P&L History

13

-2500

-2000

-1500

-1000

-500

0

500

1000

1500

2002 2004 2006 2008 2010 2012 201

SPX

SX5E

P

& L o

f V o

l - t o - V o

l D i s p e r s

i o n

( 1 0 0 V e g a

)


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Vol-to-Vol vs Var-to-Var

Due to a larger, positive sensitivity to the volatility skew, variance swapsallowed to sell index volatility for slightly more than single stocks, than when using vol swaps Actual, achieved correlation levels were larger with variance swaps(assuming 0.5 vol and 1.5 vol bid ask spreads)

Dispersion P&L using vol swaps are therefore typically lower, but risks arealso 1/3 rd lower (see next slide)This is an academic discussion given that var-to-var does not tradeanymore…

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Av g S&P 6MImplied Correl(1997-2015)

SX5E 6M ImpliedCorrel (2009-2015)

With Vol Swaps 43.4% 58.8%With Var Swaps 46.8% 63.5%


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Vol-to-Vol vs Var-to-Var P&L

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-4000

-3000

-2000

-1000

0

1000

2000

-3,000 -2,000 -1,000 0 1,000 2,000

SX5E (2005-2015)

SPX (2005-2015)

Vol-to-Vol Dispersion P&L (100 vega) V a r -

t o - V a r

D i s p e r s

i o n

P & L ( 1 0 0 v e g a

)


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Theta-Weighted vs Vega-Weighted

An alternative to the theta-weighted scheme consists of using similar vegaon the long and the short (H=1 in the equation on slide 10)

In vol-to-vol dispersion this has the consequence of making the investorlong single stock vol on top of the correlation exposure:

Being long single stock vol helps cushioning losses in the event of asimultaneous correlation and vol shock (typical in an Equity sell-off): maxloss of 13x vega only versus 20 in the theta weighted scheme

This is at the cost of a less interesting carry: median P&L of 0.5x vegaonly versus 1.4 in the theta weighted scheme

16

& − ∗=

+(1−=

)∗ ( − ) &=


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Theta-Weighted vs Vega-Weighted (2)

17

-1500

-1000

-500

0500

1000

1500

2000

2500

-3,000 -2,000 -1,000 0 1,000 2,000

SX5E (2005-2015)

SPX (2005-2015)

Vol-to-Vol Theta-Flat Dispersion P&L (100 vega) V o

l - t o - V o

l V e g a - F

l a t D i s p e r s

i o n

P & L

( 1 0 0 v e g a

)

-1000

-500

0

500

1000

1500

2000

-4,000 -2,000 0 2,000 4,000 6,000

SX5E (2005-2015)

SPX (2005-2015)

Long Single Stock Vol P&L (100 vega) D i f f B e

t w e e n

V e g a - F

l a t a n

d T h e

t a - F

l a t

V o

l s w a p

D i s p e r s

i o n P

& L ( 1 0 0 v e g a

)

For 100 VegaCorrelationP&L

DispersionP&L - ThetaWeighted

DispersionP&L - VegaWeighted

ShortIndex Var

ShortIndexVol

CorrelationP&L

DispersionP&L - ThetaWeighted

DispersionP&L - VegaWeighted

ShortIndex Var

ShortIndex Vol

Average 11.1% 51 2 231 236 8.0% 78 36 288 206 Median 13.4% 143 46 445 374 8.9% 98 -5 457 319Max Loss -29.6% -1970 -1274 -5483 -3486 -27.3% -555 -659 -4072 - 28795% Percentile -15.9% -584 -366 -1532 -1547 -12.8% -271 -278 -1319 - 1291% Positive 80% 73% 59% 82% 78% 78% 70% 49% 79% 71%Median P&L / Loss 0.8 0.2 0.1 0.3 0.2 0.7 0.4 0.0 0.3 0.2

S&P 500 (2005-2015) SX5E (2002-2015)


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Vol-to-Vol Disp In A Low Vol, High Correl Environment

Because vol-to-vol is exposed to the square root of correlation, a typical 10 pointsdifference between implied and realised correlation translates into lower P&L whencorrelation baseline level is high. This is magnified in a low vol environment

Additionally trading costs take a larger toll when vol is low: at 20% vol and 60% correl,typical trading costs result in an effective correlation of 52%

You would typically ask for larger correlation P&L before embarking on vol-to-voldispersion trades

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0

0.5

1

1.5

2

2.5

3

3.5

4

4.5

0% 20% 40% 60% 80% 100%

Vol = 10%

Vol = 20%

Vol = 30%

Correlation Baseline Level

E x p e c

t e d P & L F o r 1

0 p

t s C o r r e

l G a

i n

40%

45%

50%

55%

60%

65%

10% 20% 30% 40%

Effective Correl

Mid Correl

Single Stock Baseline Vol

E f f e c

t i v e

C o r r e

l ( a s s .

0 . 3

a n

d 1 v o

l

p t s c o s t

f o r

i n d e x a n

d s i n g

l e s t o c

k s )


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Enhanced Dispersion TradesImproving the Risk Reward of DispersionExposure


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Enhancement # 1: The Benefits of Diversification

With only 40% correlation between the P&L of S&P and SX5E dispersiontrades since 2005, there is ample diversification benefit to be had byinvesting in a globally diversified dispersion

A portfolio invested in 50/50 S&P and SX5E dispersion allows theinvestor to reach higher average profit than simply S&P– with similar risk

20

50

60

70

8090

100

110

120

130

170 180 190 200 210 220 230

All

S&P

SX5E

0.5*S&P + 0.5*SX5E

Std Dev of P&L (100 vega)

A v e r a g e

P & L ( 1 0 0 v e g a

)

Weight of S&Pin Basket Mean Median Stdev Min

10%Percentile

100% 118 171 225 -619 -25790% 113 158 216 -559 -25080% 107 146 207 -498 -25170% 101 138 200 -467 -24560% 95 128 194 -439 -23850% 90 121 189 -418 -23040% 84 111 186 -396 -21830% 78 101 184 -375 -20020% 72 93 184 -367 -20210% 67 84 186 -386 -202

0% 61 78 189 -405 -214


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Enhancement #2: Stock Picking

Looming idiosyncratic risks combined with risk aversion, as well as supplyand demand imbalances, may cause some single stock implied volatilitiesto trade at a premiumExcluding stocks with expensive implied volatilities does improve P&L forSX5E dispersion tradesThis comes in exchange of higher replication riskThis is not the case for S&P, where profit improvement is marginalcompared to the larger tracking error

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SX5E Optimised Dispersion

We select stocks based on the difference between implied volatility, andthe average of recent realised and the median realised vol over the last 2yearsSelecting only the 50% best stocks on that metric allows to improve P&L75% of the time, with average outperformance of 0.5 vega, and 85%correlation with full dispersion trade

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% Stocks Excluded From Long Basket 0% 10% 20% 30% 40% 50% 60% 70% 80% Average 68 76 83 91 106 121 143 173 197Median 78 87 93 103 114 124 134 147 150Stdev 188 181 186 187 192 202 228 287 343Max Loss -408 -437 -483 -512 -515 -594 -575 -551 -71210% Percentile -210 -190 -183 -175 -163 -158 -164 -181 -186

% Positive 67% 70% 71% 74% 76% 78% 79% 79% 77% Average 0 8 15 23 38 53 75 105 129Median 0 14 23 29 37 47 59 65 66Stdev 0 45 56 69 91 113 152 224 286Max Loss 0 -297 -291 -264 -305 -409 -404 -426 -59010% Percentile 0 -28 -44 -61 -57 -63 -80 -99 -116% Positive 100% 73% 71% 70% 71% 75% 75% 74% 72%Correlation of Optimised With Full Dispers 100% 97% 96% 94% 89% 84% 76% 64% 56%

O u

t r i g h t

D i s p e r s

i o n

O u

t p e r f o f

O p

t i m

i s e

d B a s k e

t

v s F u l

l D i s p e r s


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S&P Optimised Dispersion

The same selection as implemented for the SX5E shows no significantimprovement in risk rewardS&P is a more balanced index and superior underlying for dispersion withlittle scope for optimisation

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% Stocks Excluded From Long Basket (Top 50) 0% 10% 20% 30% 40% 50% 60% 70% 80% Average 30 20 18 19 23 31 41 54 72Median 132 140 139 140 143 142 142 137 138Stdev 334 357 364 364 368 371 377 390 416Max Loss -1376 -1489 -1543 -1542 -1509 -1574 -1563 -1696 -185110% Percentile -384 -358 -342 -333 -313 -307 -273 -264 -236% Positive 71% 69% 68% 68% 68% 68% 68% 71% 74%

Average 0 -9 -12 -11 -7 2 12 24 42Median 0 4 3 1 0 8 18 24 26

Stdev 0 71 85 95 105 119 134 165 221Max Loss -4 -418 -557 -592 -656 -701 -825 -836 -86710% Percentile 0 -104 -124 -120 -123 -138 -131 -139 -139% Positive 100% 55% 53% 51% 50% 55% 59% 58% 59%Correlation of Optimised With Full Dispers 100% 98% 98% 97% 96% 95% 94% 91% 85%

O u

t r i g h t

D i s p e r s

i o n

O u

t p e r f o f

O p

t i m i s e d

B a s k e

t

v s F u l l D i s p e r s


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Dispersion P&L DriversHow to Time Your Correlation Exposure


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What Makes Up A Successful Dispersion Trade?

Lower realised correlation:− Fundamental factors: equity performance, valuation, M&A activity

Higher implied correlation:

− Technical factors: systematic prevalence of index hedgers and stockoverwriters, temporary market correction driving vols higher

Higher stock realised volatility

− To turn a correct correlation bet into a significant profit

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Fundamental Drivers Of Realised Correlation

Equity market performance:− Realised correlation is larger during equity market corrections

Equity valuations:− Realised correlation is larger during times of acute crisis when valuation metrics are low− Correlation decreases markedly when equity markets are expensive and investors have

to turn to stock picking in order to generate performance

Little impact of M&A activity: probably because typical dispersion basketsinclude mainly extra large caps, which are not natural M&A targets

26

S&P SX5E

FactorCorrelation with 6MRealised Correlation t-Stat

Correlation with 6MRealised Correlation t-Stat

12M Fwd Price-to-Earnings -55.3% -44.9 -5.6% -0.1S&P Coincident Performance -32.7% -23.4 -46.9% -0.5

Agg. $ Consideration of M&A Deals Announced -7.2% -4.9 16.5% 0.2


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Realised Correlation vs Equity Valuations

27

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

0 5 10 15 20 25 30

SPX (1997-2015)SX5E (2009-2015)

12M Fwd Price-to-Earnings

R e a

l i s e d

C o r r e

l a t i o n

The most efficient predictor of realised correlationPE of 10 = avg 6M realised correl of 60%, PE of 15 = avg correl of40%, PE of 20 = avg correl of 30%


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Realised Correlation vs Equity Market Performance

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0%

10%

20%

30%

40%50%

60%

70%

80%

90%

-60% -40% -20% 0% 20% 40% 60%

SPX (1997-2015)

SX5E (2009-2015)

Coincident Index Performance

R e a

l i s e

d C o r r e

l a t i o n


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Realised Correlation vs Global M&A Activity

29

0%

10%

20%

30%

40%50%

60%

70%

80%

90%

0 50,000 100,000 150,000 200,000 250,000 300,000 350,000

SPX (1997-2015)

SX5E (2009-2015)

$ Consideration of Deals Announced

R e a

l i s e

d C o r r e

l a t i o n


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What Factors To Watch Before Implementing A Trade?

We look at factors which exhibited good correlation with dispersion P&L inthe past – factors not fully taken into account in implied correlation prices

Selected Factors:− Valuation multiples, coincident market performance− Absolute implied correlation level, index skew− Prior changes in implied correl (in particular for SX5E)

30

S&P SX5E

FactorCorrelation to 6M"Correlation P&L" t-Stat

Correlation to 6M"Correlation P&L" t-Stat

Implied Correl Level 53.1% 42.4 60.6% 28.4Coincident Underlying Perf 69.3% 65.1 42.9% 17.7Implied to Realised Correl Spread 39.7% 29.3 13.4% 5.0Index Vol Skew 19.2% 12.9 24.2% 0.3Index Vol Level 6.3% 4.3 35.0% 13.9M&A Activity -8.7% -5.9 -31.5% -12.4Prior Change In Implied Correl (1M) 9.7% 6.6 21.7% 8.212M Forward Price-to-Earnings 3.2% 2.2 -23.9% -9.2Prior Change in Underlying 16.4% 11.2 2.2% 0.8Prior Change in Index Vol -6.2% -4.2 -4.4% -1.6Prior Change in SS Implied Vol (1M ) -4.8% -3.2 -1.5% -0.6SS Implied Vol Level -21.1% -14.6 21.4% 8.2


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Correlation/Dispersion P&L vs Implied Correl Level

Rule of thumb:− Buy 6M dispersion when effective correl level (after transaction costs > 60%)

Implied to realised correlation spread is a less efficient indicator

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-1500

-1000

-500

0

500

1000

1500

0% 20% 40% 60% 80% 100%

SX5E (2005-2015)

SPX (2005-2015)

Effective Implied Correlation (in %) V o

l - t o - V o

l D i s p e r s i o n

P & L ( 1 0 0 v e g a

)

-40%

-30%

-20%

-10%0%

10%

20%

30%

40%

50%

60%

0% 20% 40% 60% 80% 100%

SX5E (2009-2015)

SPX (1997-2015)

Implied Correlation (%)

C o r r e

l P & L ( 1 0 0 v e g a

)


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Correlation/Dispersion P&L vs Equity Performance

Odds improve in times of strong equity performance:− Typically lower volatility and lower correlation in rising markets− 90% probability of achieving >0 P&L if underlying index performance is positive; 70%

probability of >0 P&L for flattish performance (+/- 5%)− SX5E dispersion P&L tends to be less correlated to SX5E performance

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-1500

-1000

-500

0

500

1000

1500

-60% -40% -20% 0% 20% 40% 60%

SX5E (2005-2015)

SPX (2005-2015)

Coincident Equity Performance (in %) V o

l - t o - V o

l D i s p e r s i o n

P & L ( 1 0 0 v e g a

)

-40%

-30%

-20%

-10%

0%

10%

20%

30%

40%

50%

60%

-60% -40% -20% 0% 20% 40% 60%

SX5E (2009-2015)

SPX (1997-2015)

Coincident Equity Performance(%)

C o r r e

l P & L ( 1 0 0 v e g a

)


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Correlation/Dispersion P&L vs Valuation Ratios

Dispersion P&L is good when valuations are low: typically after a sell off whenrisk perceptions and implied correlations are highDispersion P&L improves markedly when equity markets are expensive asinvestors have to turn to stock picking in order to generate performancePEs of over 20 were observed only in the late 90s but coincided with profitable

trades (based on correlation P&L)

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-1500

-1000

-500

0

500

1000

1500

0 5 10 15 20

SX5E (2005-2015)

SPX (2005-2015)

FWD Price-to-Earnings Ratio (in %) V o

l - t o - V o

l D i s p e r s

i o n

P & L ( 1 0 0 v e g a

)

-40%

-30%

-20%

-10%

0%

10%

20%

30%

40%

50%

60%

0 5 10 15 20 25 30

SX5E (2009-2015)

SPX (1997-2015)

FWD Price-to-Earnings Ratio

C o r r e

l P & L ( 1 0 0 v e g a

)


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Correlation/Dispersion P&L vs Skew

We find circa 25% correlation between index volatility skew andsubsequent “correlation P&L” − Direct: a higher skew inflates the index vol or variance swap strikes vs ATM volatility

which translates into a higher effective correlation− Indirect: a higher skew could be the sign of stronger demand for equity protection,

lifting the entire index vol surface up versus single stocks

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-40%

-30%

-20%

-10%

0%

10%

20%

30%

40%

50%

60%

0% 2% 4% 6% 8% 10% 12%

SPX (1997-2015)

SX5E (2009-2015)

6M 90/110 Volatility Skew

C o r r e l

P & L

-1500

-1000

-500

0

500

1000

1500

0% 2% 4% 6% 8% 10% 12%

SPX (2005-2015)

SX5E (2005-2015)

6M 90/110 Volatility Skew V o

l - t o - V o

l D i s p e r s

i o n

P & L ( 1 0 0 v e g a

)


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S&P/SX5E Dispersion Performance vs Skew Differential

Since 2012 S&P dispersion has systematically performed better thanSX5E dispersion

Although this can be linked to S&P index outperformance (see slide 27),a likely driver has been the record differential in skewOver the last few years, a booming structured retail market, and general

disaffection for equity and hedging in Europe, has pushed SX5E skew torecord lows, while S&P skew has rebounded to near all-time highs

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-2000

-1500

-1000

-500

0

500

1000

-3% -2% -1% 0% 1% 2% 3% 4%

2012-2015

2005-2011

S&P/SX5E 6M 90/110 Skew

D i f f B e

t w e e n

S & P a n

d S X 5 E

D i s e r s

i o n

P & L ( 1 0 0 v e g a

)

-2000

-1500

-1000

-500

0

500

1000

-3%

-2%

-1%

0%

1%

2%

3%

4%

2005 2007 2009 2011 2013

Skew Diff

P&L Diff

S & P / S X 5 E 6 M

9 0 / 1 1 0 S k e w

S p r e a

d D i f f B

e t w e en

S & P

a n

d S X

5 E D i s

p er s i on

P & L

( 1 0 0 v e

g a )


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Dispersion Trading In 2015Outlook And Recommendations


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Strong Outlook for S&P Dispersion

S&P dispersion trades have had their best 6-months since 2012 with anestimated profit of circa 4x vega (6M Top 50 dispersion)− Strong correlation P&L (20 correl pts) at lower baseline correl levels than in 2012 (6M

realised correl at 30 to 35pts)− Single stock realised vols still low but at their highest level since 2011 (22%)

PE of 17 and expected flat S&P performance point towards realisedcorrel of 35% for the rest of the year

This compares to implied correl of 58% (top 50 ATM), and effective correlof circa 50%− Below the 60% threshold− But 6M 90/110 skew at 9% is near all-time highs

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S&P Dispersion: History vs Forecasts

38

0%

10%

20%

30%

40%50%

60%

70%

80%

90%

1996 1998 2000 2002 2004 2006 2008 2010 2012 2014

Implied 6M

Realised 6M

Forecast

C o r r e

l a t i o n

L e v e

l

-2000

-1500

-1000

-500

0

500

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

6 M

D i s p e r e s i o n

P & L

( 1 0 0 v e g a

)


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Mixed Outlook For SX5E Dispersion

SX5E dispersion has yielded disappointing results since 2014− Low to outright negative correlation P&L as SX5E has continued to realise over 60%despite the rally

− Low realised volatilities helped mitigate losses in 2014

Mixed outlook for realised correl− SX5E PE ratio (16) at highest on record, which points towards 40% realised correl

according to S&P experience – but will this hold for SX5E?− SX5E expected to rally up to 10% by year end (Credit Suisse Strategy’s target price:

3,900), which in the past has been associated with realised correl of 50% and higher− One should not overestimate the impact of M&A activity

Implied correl of 65% (6M, ATM) but effective correl of 60%− High, but lower than the optimal threshold when SX5E dispersion typically requires a

higher effective correlation than S&P in order to post a profit− 6M 90/110 skew at 5% is low compared to history

39


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SX5E Dispersion: History vs Forecasts

40

-800

-600

-400

-200

0

200

400

600

800

1000

1200

2002 2004 2006 2008 2010 2012 2014

6 M

D i s p e r e s i o n

P & L ( 1 0 0 v e g a

)

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

2009 2011 2013

Implied 6M

Realised 6M

Forecast C o r r e

l a t i o n

L e v e

l


41/41

Disclaimer

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