hedging a portfolio against a black swan

bjw said:
Hi,

Quick question: imagine you would want to hedge a portfolio, with lots of well-diversified positions consisting of stocks and derivatives, against a "black swan" type of event. The portfolio currently generates some positive returns if the underlying stocks (market in general) goes down 10-20%, but from 25-30% downwards it pretty much turns ugly quite fast.

How do you protect yourself against that? Obviously, by just buying puts on, say, SPY, you'd likely over-pay for insurance as you don't need insurance (on the contrary) for the first 20% down, which is what you're in fact getting. Are there any other option strategies or financial instruments that would do a better job?

Thanks for reading.
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Sell covered and even some naked otm calls or use close stops outside the noise.
 
tradelosses said:
Puts are waaay overpriced...many academic papers have been written on the matter and all conclude puts are overpriced relative to the risk of a crash.
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That's because academics generally lack experience in the field. Puts are priced high for good reasons... and a black swan is one of them.
 
globalarbtrader said:
Very simple at some degear point (say a 30% drawdown) you reduce your portfolio exposure by 10%; then continue until at say a 60% drawdown you have no exposure. You keep tracking what your portfolio would have made without degearing; when it recovers past the triggrer point you regear.
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But does this work in a calamity where you might not have time to reduce your exposure? The benefit of a put is that it's already in place...

I would go for a teenie put, very low premium... buy more than you need and forget about it. Write off the position and don't look at it until the shit hits the fan...
 
Buying puts to protect a portfolio chokes off the profits of the portfolio. You have to overcome the cost of the premium before you can make any money. You would be just as well off to sell your portfolio , buy calls and put the difference elsewhere.
 
Buy1Sell2 said:
Buying puts to protect a portfolio chokes off the profits of the portfolio. You have to overcome the cost of the premium before you can make any money. You would be just as well off to sell your portfolio , buy calls and put the difference elsewhere.
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I disagree, sure you need to make back the premium... but that's why it's called insurance!

Premium could be less when you buy far out.

@bjw , it would be handy if you would tell us what kind of portfolio you want to hedge...
It looks like you're already trading options and have a spread on?
 
JackRab said:
But does this work in a calamity where you might not have time to reduce your exposure? The benefit of a put is that it's already in place...

I would go for a teenie put, very low premium... buy more than you need and forget about it. Write off the position and don't look at it until the shit hits the fan...
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No it doesn't. That's the obvious disadvantage of a synthetic hedge. I've already listed the advantages.

GAT
 
The traditional answer is to have a well diversified portfolio. Consumer goods, Health care, utilities, financials, Basic Materials etc. will give you a portfolio which is surprisingly resistant to market ups and downs. Good dividend payers are also a hedge in that they give you income which can mitigate against down turns when they occur.

Also I have found that paying attention to the balance of short positions and long positions also helps to mitigate against market ups and downs. Look not only for good companies but also look for bad ones. A bad company is as big an opportunity as a good one.

Also there are certain inverse etfs which can also help build a resistant portfolio.

e.g.
http://stockcharts.com/freecharts/perf.php?SPY,SH
 
A VX contract has some advantages, such as taxes, margin efficiency, and the 23 hour market, 1 VX contract = to 10 VIX options. I am not a financial advisor, so consult an expert.
 
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