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1) The insight for the design and back-testing of systematic volatility strategies
2) Understanding of risk-reward trade-off and potential pitfalls of volatility strategies
We focus on systematic and rule-based trading strategies that can be marketed as an investable index or a proprietary strategy:
1) Delta-hedged strategies for capturing the volatility and skew risk-premiums
2) Without delta-hedge: CBOE and customized options buy-write indices
We overview important implementation aspects:
1) Measuring the historic realized volatility
2) Forecasting the expected realized volatility
3) Measuring and forecasting implied and realized skew
4) Computing option delta consistently with empirical dynamics
5) Analysis of transaction costs
6) Managing the tail-risk of short volatility strategies
We suggest an adjustment to the extant models which improves their forecasting ability considerably. We also suggest a new weighting scheme which yields better estimates on an out-of-sample basis than any of the existing models (adjusted or unadjusted). However, we also find that because there is little independent noise in individual options ISDs (at least in the S&P 500 options market), there is little gain to averaging. Consequently, individual option ISDs and averages of just a few ISDs forecast almost as well as weighted averages of many ISDs and the weighting scheme choice is relatively unimportant.