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Yes you are right and I was talking b*llocks :( The risk of course is that the correlation (+1) won't hold. This type of strategy is new to me, please bear with me on the learning curve....

Isn't the whole objective of a dispersion trade to capture the difference between component IV and index IV ? Where the index is 100% replicated with correctly weighted stocks you'd have a true arb ? Where 100% index replication isn't done you have correlation / dispersion exposure ?

Ah, I see where you're coming from. Yes, you'd be net short Gamma across 2 different markets. Expensive gamma sold (stocks) against cheap gamma bought (index). The 2 stock example is an expiry play, where no intrinsic loss is possible. At expiry you keep the difference between IV sold and...

To answer my own question, the basket vol is 9.903%. Finally got my head around the main formula; http://www.elitetrader.com/vb/attachment.php?s=&postid=905452

Correct, I’m long correlation and short dispersion. I too don’t know what you mean here. The correlation between two stocks is essentially the correlation between the stocks volatility and it's direction. In a dispersion (or reverse) the components are hedged against the index and where you...

They are hedged, UKX is the component index, of which I'm long.

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Yes, I'm running a live model started last Friday (18th Nov)...and this was a snapshot of the portfolio 5 minutes ago. <TABLE border=2> <TR><TD> Stock 18 Nov </TD> <TD> 25-Nov </TD> <TD> % Chg </TD> <TD> Strike </TD> <TD> Qty </TD> <TD> Prem </TD> <TD> Value £ </TD>...

I still don’t follow you. Maybe we’re talking cross purposes here, outliers in what context ? WtdCompIV ignores correlation between the components. I summed the IV x stock’s weighting. My understanding is that it’s the index IV / weighted components IV. Where the values are the same the...

The trade(s) would be done as close to ATM where possible, so don't follow your thinking wrt outliers. That has been my recent intuition, so I delved a bit deeper.... Looking at the FTSE100, the WtdCompIV is 21.21% with actual IV 11.2%, all taken ATM and from Friday's close. Implied...

That is exactly the strategy that I'm working on. Since I'd be long correlation (short dispersion) the "flaw" is that correlation of the chosen basket stocks will will go out of synch. I have alot more work to do and need some help with the 2nd & 3rd volatility level coefficient...

SV = HV.....right. Another question for you.....how does HV come into the equation when dispersion trading ?

What's "SV" ? and what's it's relationship to IV ? Thanks.

mystic Very interesting, many thanks. A compelling case for a reverse dispersion trade then ?

How do you choose the components ? What percentage weighting of the index do you replicate with your basket of stocks. Thanks.

mystic Thanks, I have the formula. Just need someone to work an example....

I agree. But in my endeavour to learn, I need to start from basics. I need some help in the basic calc....Hence the above post. I'm sure someone can help, he says...

Anyone ?

Stock 1) IV 25%, index weighting 20% Correlation 0.90 Stock 2) IV 20%, index weighting 30% Correlation 1.10 Stock 3) IV 20%, index weighting 25% Correlation 1.25 Stock 4) IV 15%, index weighting 20% Correlation 0.72 Stock 5) IV 35%, index weighting 5% Correlation 1.10 In this theoretical...

Thanks guys. I'm going to do some homework....