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Asset Allocation & Derivative Instruments
Asset Allocation and Derivative Instruments - July 11, 2011

The Eurex "The Benefits of Volatility Derivatives in Equity Portfolio Management" Strategic Research Project

The emphasis of the Eurex "The Benefits of Volatility Derivatives in Equity Portfolio Management" strategic research project will be on optimising access to the equity risk premium while controlling for downside risk.

In 2008, worldwide equity markets collapsed and many assets which conventional investment wisdom until then regarded as effective equity diversifiers, such as commodities, also experienced dramatic falls. Meanwhile, equity volatility skyrocketed causing long positions in equity volatility to rally. These events as well as regulatory developments dashed the exaggerated hopes placed in traditional forms of diversification and led investors to pay increased scrutiny to the volatility and downside risk of equity holdings if not to question the level of their allocation to equity altogether. They also prompted interest in the possible use of equity volatility derivatives as diversifiers for traditional and alternative portfolios in general, and equity positions in particular.

Against this backdrop, the present research project is dedicated to exploring the uses of volatility derivatives by professional investors, with specific emphasis on their equity portfolio management applications.

The project will show how volatility derivatives can be used to optimise access to the equity risk premium in a controlled volatility-risk environment, and engineer equity portfolios with downside-risk properties that compare favourably to solutions put forward by leading asset managers.

The project is managed by Lionel Martellini, Professor of Finance at EDHEC Business School, and Director of EDHEC-Risk Institute.

The work will be overseen by a joint Eurex/EDHEC Risk Institute—Asia steering committee.

[Press release announcing the launch of the strategic research project: 03/03/11]

Research Output

The Benefits of Volatility Derivatives in Equity Portfolio Management
May 2012
Renata Guobuzaite, Lionel Martellini
The focus of this paper is to provide a formal analysis of the benefits of volatility derivatives in equity portfolio management from the perspective of a European investor. Its main contribution is to compare the risk/return characteristic of equity portfolios combined with long volatility exposure to those of a GMV equity portfolio – the conventional approach to managing equity volatility. This paper is in fact the first to provide an explicit comparison of managed volatility strategies based on GMV portfolios and managed volatility strategies based on volatility derivatives. The results unambiguously suggest that the latter approach is a more efficient way to manage equity volatility, especially in market downturns periods. [Press release announcing the publication of the research: 06/06/12]

About Eurex Exchange

Eurex Exchange is one of the world’s leading derivatives exchanges, serving a growing global distribution network. It offers more than 1,700 products covering all major as well as alternative asset classes. Our marketplace – based on innovative IT infrastructure – is gateway to the most heavily traded euro denominated equity index and fixed income derivatives.

As part of Eurex Group, we provide access to a global liquidity network with daily trading volumes exceeding 10 million contracts in 2011 together with the International Securities Exchange and the European Energy Exchange. Eurex Exchange uses Eurex Clearing, one of the leading central counterparties globally.

Find out more at www.eurexchange.com.

Eurex Group is comprised of Eurex Exchange, the International Securities Exchange, the European Energy Exchange, Eurex Clearing, Eurex Bonds and Eurex Repo. Eurex Group is owned by Deutsche Börse AG (Xetra: DB1).