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Rick Selvala

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2018-02-26
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2018-02-26
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  1. “Or you think the market's bottomed and you sell a put and the market still goes down, but it doesn't go far enough. The problem is, and while you receive upfront, your maximum gain is known, and that's the premium you receive, your maximum loss,”

    2018-02-26 · Capital Allocators · Rick Selvala - Harvesting Volatility (Capital Allocators, EP.41) · IDENTIFIED FROM THE TRANSCRIPT · source

  2. “So it's a way of taking a measured amount of risk to have an asymmetric potential outcome. You can pay $1 for an option and maybe make three or four. However, the odds are pretty good that you're going to lose the dollar. And so it's a good news, bad news. My risk is limited, but my potential to lose all that is pretty high. But that's no one's ever been really hurt. Well, let me rephrase it. You're less likely to be hurt buying an option, you might bleed to death over a long period of time, but you're not going to be taken out tomorrow on a stretcher if you're buying options. Conversely, when you sell an option, you get paid, and even if you're wrong, you can win, meaning you think the market's toppish, you sell a call that's out of the money, the market still goes up, but it doesn't go up far enough to reach your call strike. And guess what? You still get to keep the premium.”

    2018-02-26 · Capital Allocators · Rick Selvala - Harvesting Volatility (Capital Allocators, EP.41) · IDENTIFIED FROM THE TRANSCRIPT · source

  3. “I would say when someone gets overly complacent thinking that this certain outcome could never happen but not thinking about what if it did happen and what would be the impact so I think that generally if you buy a call or if you buy an option the good news is your risk is limited to whatever premium you paid”

    2018-02-26 · Capital Allocators · Rick Selvala - Harvesting Volatility (Capital Allocators, EP.41) · IDENTIFIED FROM THE TRANSCRIPT · source

  4. “No, as such, if I'll just give a simple example, if stocks at 100 and if the VIX, which long-term average is about 20, so if the VIX is at 20, one might think that, okay, stock's at 100, let's say a 110 call and a 90 put, both 10 points away from spot, should both be at about a 20 vol. And the answer is that that 110 call vol is probably closer to 15, and that 90 put vol is probably more like 25. So VIX is the weighted average of all the strikes, calls, inputs, et cetera. It's sort of like a duration number versus the six-month t-bill versus a 30-year bond.”

    2018-02-26 · Capital Allocators · Rick Selvala - Harvesting Volatility (Capital Allocators, EP.41) · IDENTIFIED FROM THE TRANSCRIPT · source

  5. “with consistency. Obviously, there will be spikes in time where realize we'll jump through, but they don't last very long and they come back. And so there is that. And then when you get to put some particular, there's also this thing called skew, which is effectively a measure of the relative demand for downside protection versus upside participation. And as we all know, the markets tend to take the stairs up and the elevator down. Sometimes the elevator court even gets cut on the way down.”

    2018-02-26 · Capital Allocators · Rick Selvala - Harvesting Volatility (Capital Allocators, EP.41) · IDENTIFIED FROM THE TRANSCRIPT · source

  6. “The short answer is yes, and your insurance and analogy is perfect, frankly. Options provide a risk transference mechanism like insurance. And buyers of insurance over time typically overbuy, but they sleep well at night. And sellers of insurance make a lot of money, but they better know how to manage their risk. And so, you know, that's the short of it. And you can see it numerically by looking at the spread of implied volatility over realized volatility. And since the 87 crash, it's been pretty persistent in that 3% to 4% range.”

    2018-02-26 · Capital Allocators · Rick Selvala - Harvesting Volatility (Capital Allocators, EP.41) · IDENTIFIED FROM THE TRANSCRIPT · source

  7. “So, I want to move on to this fascinating topic of options as insurance. And we read a lot in the papers now about people or NETF getting blown up because of shortfall. I want to frame this as saying, is the derivatives market to say equity derivatives to keep it simple, does it work like insurance? So yes, insurance companies sell insurance. And if you own a house and something happens, you get paid a lot of money. People worry, certainly in the institutional space, you don't hear people saying, oh yeah, we want to sell puts because everyone has this deathly afraid of the event happening or certainly naked puts. But is that wrong? If you look at it, does it work like insurance? Is there a premium that you can capture by selling volatility?”

    2018-02-26 · Capital Allocators · Rick Selvala - Harvesting Volatility (Capital Allocators, EP.41) · IDENTIFIED FROM THE TRANSCRIPT · source

  8. “The time decay doesn't really kick in until three months and in, and so it doesn't make a lot of sense. And markets can move and change so much in a year. So I personally think sort of that one to three month window, you know, is really the optimal and depending on. And if you think the stock's at a higher level involves attractive, you might want to punch it out three months. And if you want to have the ability to roll strikes higher, et cetera, you might keep it in a little shorter dated. But that's where experience and expertise and understanding the curve and where opportunities are on the curve really comes into play.”

    2018-02-26 · Capital Allocators · Rick Selvala - Harvesting Volatility (Capital Allocators, EP.41) · IDENTIFIED FROM THE TRANSCRIPT · source

  9. “It's tough to have one solution for all markets. What I would say is that because of time decay, selling shorter dated options is a way to maximize that decay. However, that requires more work and more attention, and it will lead to more execution costs, and it will lead to option strikes that are closer to spot. And so if you don't want to get your sock called away, it's going to require much more hand holding and attention. The flip side is you could make it really simple and just go out one year, but when you go out a year, A, the vol that you're getting is usually pretty dampened.”

    2018-02-26 · Capital Allocators · Rick Selvala - Harvesting Volatility (Capital Allocators, EP.41) · IDENTIFIED FROM THE TRANSCRIPT · source

  10. “And is there for someone in the know, if you were looking at a systematic program of selling, is there a rule of thumb about sort of the optimal way because of the term structure of volatility? Is this like, if you want to do it, you should just do it on a monthly roll basis and keep doing it and keep doing it and keep doing it? Or should you go out six months? Or is there just a general rule of thumb?”

    2018-02-26 · Capital Allocators · Rick Selvala - Harvesting Volatility (Capital Allocators, EP.41) · IDENTIFIED FROM THE TRANSCRIPT · source

  11. “Two don't usually happen at the same time. Usually when a stock has made a nice run, volatility tends to decline. There's less fear. And conversely, when volatility spikes in stock, it's usually because the stock has just collapsed. And so after a stock has collapsed, the good news is volatile is higher, but the bad news is now you're writing a strike that's well below where it was yesterday. But on the other side is if a stock gaps up to new all-time highs and you're okay selling three to five percent above that level, you're probably going to get a little less from a vault side. So the bliss answer is somewhere in between where stock is sort of rain strading. It's sort of in a pattern that makes sense and is likely to be there for a prolonged ish period. You can sell calls on the highs with volatility still at reasonable levels.”

    2018-02-26 · Capital Allocators · Rick Selvala - Harvesting Volatility (Capital Allocators, EP.41) · IDENTIFIED FROM THE TRANSCRIPT · source

  12. “If you're trying to do more than that, either you're selling calls on a really volatile stock, which in effect is giving you a synthetic short put position. But I think if adding two to three percent sounds reasonable, then you can sell options that are, you know, sort of 25-ish delta, which is another way of saying three out of four times they will expire worthless. One out of four times they will be in the money, which means you either write a check for the difference or you buy it back and sell a new call at higher strikes. A big part of it is, you know, what is the investor's stock holding? What's their review on the stock? And it's as much about where the stock is as vault level. And I'll just give you one last example. You generally like to sell calls on a stock when it's price is high and volatility is high. And by definition, those.”

    2018-02-26 · Capital Allocators · Rick Selvala - Harvesting Volatility (Capital Allocators, EP.41) · IDENTIFIED FROM THE TRANSCRIPT · source

  13. “Great question. It really is its two part. Part of it is how much appreciation in the stock that you want to retain versus how much income you want to generate from the option premium. I would say that the less bullish you are on your stock, you're not necessarily bearish, you're not looking to sell it. Maybe you have a very low basis. But maybe it's going to be stuck in neutral for three to six months. In that case, someone might get them more aggressive and sell call option that's closer to spot and be able to add a lot more premium. In those cases, again, it all depends on the price of the stock. It depends on the volatility of the stock. It depends on the time to maturity, all of those things. And whether you're rolling or not, but generally speaking, I think you can adding two to three percent sort of doubling the yield is a reasonable expectation.”

    2018-02-26 · Capital Allocators · Rick Selvala - Harvesting Volatility (Capital Allocators, EP.41) · IDENTIFIED FROM THE TRANSCRIPT · source

  14. “insurance to ever cash in. We don't want our home to get taken out. But that's sort of part two, which is using options to reduce risk. The third, of course, is leverage, and that's in certain cases someone might be long or have a balanced portfolio and they might just either buy calls on a certain sort of bet or buy puts on a certain downward bet. And it's just a way to sort of try to turbo boost things. Like anything, options or tools and analogous to pharmaceuticals when you know how to use them and you follow the prescription and you work with the experts, they can be wonderful things. When any of those things don't happen, they can be bad things.”

    2018-02-26 · Capital Allocators · Rick Selvala - Harvesting Volatility (Capital Allocators, EP.41) · IDENTIFIED FROM THE TRANSCRIPT · source

  15. “Far, you might lose in the option side. You might win on both if the stock goes up only a small amount, and that's what really what you're banking on. Obviously, you sell a covered call. It's not a hedge. It's not protection, but it is additional income, which can help dampen things a little bit. But that is sort of the basic use of options. And then the second most common clearly is buying protection. And so if you are along the market and either you're nervous about eventual correction or you would be adversely impacted by a big downward move, very common for people to buy puts on certain stocks or on the market, sort of like insurance on your house. And the idea there, obviously, is you will probably pay a little, pay, a little, pay a little, and no one, you know, we all pay for insurance on our homes. None of us want.”

    2018-02-26 · Capital Allocators · Rick Selvala - Harvesting Volatility (Capital Allocators, EP.41) · IDENTIFIED FROM THE TRANSCRIPT · source

  16. “We sort of think about volatility as a way to do three basic things. One is to add yield, and two would be to reduce risk. And three would be to add leverage. And when you think about the adding yield part, the most common sort of approach, sort of options 101, if you will, is writing covered calls. And so if you own a stock that's trading at 100 and you're willing to sell it at 105 and you sell a call at 105 and you get paid, the idea is minus we'll get paid while you wait for the stock to get to the price that you want to sell it anyway. If it doesn't get there, you keep the premium and you can do it again and you can do it again. And so it's a low risk-ish way to use options because you can't lose on both. If the stock drops, you went on the option side. If the stock rises too,”

    2018-02-26 · Capital Allocators · Rick Selvala - Harvesting Volatility (Capital Allocators, EP.41) · IDENTIFIED FROM THE TRANSCRIPT · source

  17. “Corporations need and are looking for and if you have a temperament that's good at explaining complex things and making them understandable and helping to sort of solve problems. So that sort of happened in the early-ish 90s and start off in the currency derivative area, which was a lot of fun. And then once the euro came, it became a little less interesting, a lot fewer currency pairs, and I made the switch in the late 90s from the equity, excuse me, currency derivative side over to the equity derivative side. And that was an exciting time because markets were booming and then all of a sudden markets weren't booming.”

    2018-02-26 · Capital Allocators · Rick Selvala - Harvesting Volatility (Capital Allocators, EP.41) · IDENTIFIED FROM THE TRANSCRIPT · source

  18. “I clearly did not do that either. Growing up in Detroit, I was a third generation GM guy person. So, you know, my goal was to go to Michigan and get a degree in mechanical engineering. I was lucky enough once I joined GM, they sent me to Harvard Business School. And I ended up at the New York Treasurer's Office in New York. So that was the first time sort of financial markets became part of my daily routine and from a career perspective, it really was exciting. So I switched from wanting to one day run an auto company to wanting to be involved with Wall Street. And that sort of evolved from there. So all of a sudden, you're dealing with currency exposures and interest rate exposures. At that point, banks start to talk to you about, hey, would you ever think about coming to the other side when they see someone who understands what”

    2018-02-26 · Capital Allocators · Rick Selvala - Harvesting Volatility (Capital Allocators, EP.41) · IDENTIFIED FROM THE TRANSCRIPT · source

  19. “Brain had formed about volatility. I'm for system two to go to work. Before we turn to the conversation, I have a favor to ask. For over a decade, I've participated in a fundraiser for rare cancer research called Cycle for Survival. Cycle got started by a classmate of mine from business school, the late great Jennifer Goodman Lynn, and her husband and also classmate, Dave Lynn. It started in a single equinox gym in New York City back in 2007 and has grown to a national movement that has raised $160 million and funded over 100 clinical trials at Memorial Sloan Kettering Cancer Center. I've received a number of welcoming inquiries from old friends offering to pay for a subscription to Capital Allocators and from new friends thanking me for making these educational conversations for free. For those inclined, now's the time to return the favor. I'm writing at a cycle event in my hometown on March 4th, and I'd like to encourage you to donate if you're so inclined.”

    2018-02-26 · Capital Allocators · Rick Selvala - Harvesting Volatility (Capital Allocators, EP.41) · IDENTIFIED FROM THE TRANSCRIPT · source

  20. “Guessed on today's show is Rick Sovala, the co-founder and CEO of Harvest Volatility Management, a 10-year-old manager of a variety of volatility strategies that oversees $13 billion in assets. After starting his career in the Treasury Department at General Motors in the mid-1980s, Rick has spent nearly three decades trading derivatives on the sell side and buy side. He has an uncanny ability to break down this complicated investment area and make it sound simple. Our conversation discusses the world of volatility, including intelligent uses of derivatives, overcoming headline risk, characteristics of successful traders, assessment of alpha, the current volatility environment, and strategies that capture returns. Rick's insights left me thinking twice about some of the assumptions my system one”

    2018-02-26 · Capital Allocators · Rick Selvala - Harvesting Volatility (Capital Allocators, EP.41) · IDENTIFIED FROM THE TRANSCRIPT · source