I received this picture in my email inbox, titled I finally got the Christmas lights up last night. While amusing, this seems to be a metaphor for how Wall Street behaves these days: All sizzle and no steak.
Clients in the private bank space are already starting to trade some of the new ideas. Amanti says that BarCap is marketing ideas that take advantage of the increased volatility, which is at unusually high levels. Typically, currencies don't move much, but today the volatility on many currency pairs is similar to the vol levels on equities a year ago. Even at those levels, it is still possible to take advantage by using, for example, products that offer a very large range around a spot level or that take a view that the spot will not move as much as the volatility implies.
"Also, given the current high volatility environment, the idea of selling volatility, either within capital protected structures or taking some principal risk, can be very attractive and these ideas are gaining more and more traction," says Amanti.
Implied volatility estimates as applied to option pricing formulas are a fall-out. No one thinks they are true, but they are a paramater used to keep relationships stable across options of similar expirations.
Intelligent hedgers hedge options with options; they don’t try to apply the theoretical equivalence that lies behind the traditional Black-Scholes formula and do dynamic hedging with the common stock itself.
Greed is still Good.