The Bole Chronicle | December 2020
Volatility as an all-weather strategy in Asia
Horror stories dominate when it comes to Volatility ('vol') strategies in Asia among fellow allocators. Be it nasty blow ups or the good old bleed to death, getting it right consistently in Asian Vol has long been seen as a 'mission impossible', or at least that's what the folklores have been telling us all along.
Bleeding to death vs Blowing up
The original script was straight forward enough and has long been told in Asia. Heavy high-net-worth participation via their friendly private bankers hunting for 'yield' have been all along building a rather one-sided structured product market, pushing volatility down to an artificially low level which arguably underpriced the risks it associated with by a rather wide margin. Throwing on top the 'Central Bank Puts' post-GFC, a long vol strategy seems to be a no-brainer, well, that is if one has not yet bleed to death in the first place before the fat lady sings. Indeed, getting that timing right is more an art rather than science and closing down the position in time to lock in the profits yet another highly challenging task.
On the otherhand, and for the record it was mostly the wannabes rather than the old masters that actually got their fingers burnt, shorting vol seemed to have been regarded as the 'no fly zone' for as long as the institutional allocators have been involved in Asia. Probably to the surprise of most, however, historically the high profile closures of Asian vol funds actually have been mostly the case of a bleed to death combining with a drying up of liquidity, rather than blow-ups associated with vol spikes. 'Tail risk hedge' have all along been an excuse for most trying to justify their existence despite of the bleeds, yet when year in and year out one is simply feeding the piggy bank and harvest times are hard to come by, if ever, most investors lost their interests and patience in the end, in turn triggering yet another downward spiral.
And as if all these are not enough, welcome also to the land of creative pricing especially when one is mostly relying on the OTC markets to squeeze the juice, where liquidity is seldom there when needed.
Keep it Simple Stupid
All that being said, we happen to think that decent alpha is still all around in the land of Asian vol if one is not trying too hard, with the good old 'KISS' being the best policy.
First thing first, if even the manager needs a good hour or so to explain their 'strategy' let alone augmenting with piles and piles of complex slides, throwing in all the Greeks for Geeks in between, how can one expect the allocators to feel comfortable in understanding all the risks associated and in turn explaining them well to their end clients.
Yet if one simply think of vol as an asset class like equity, all you need is just some dispersion in between for one to capture and hence a simple yet opportunistic relative value approach sticking with listed instruments should be good enough. (Note we mean dispersion in a broader sense here and not only those related to the vol jargon itself.)
Dispersion actually... is all around
And in the Asian context, dispersion is indeed all around. Post-COVID brave new world, US-China race to supremacy, not to mention the decades long and surprisingly still existing misunderstanding the West has towards local economies and market dynamics, should all make any decent home grown team with local insights a solid contender in the years, if not decade to come, provided that they don't put all their eggs into one basket, and indeed master the process of risk control with discipline.
Last but not least, prevailing in most Asian alpha strategies but all the more so for Asian vol, is the issue of capacity. Let it be on the record that the highest profile 'blow up' of Asian vol manager in our opinion was nothing more than simply a liquidity event. While the strategy did bleed in the latter years, it was their sheer size versus the market that actually triggered their own downfall. In a market when the largest player is a known forced seller, who will be there to bail you out, if not actually there to give you that 'little push' towards your ultimate demise.
As we look ahead to 2021, a year of perceived 'great recovery' and 'normalization' to most, history has it all written out for us that it will most probably again be an 'anything but'. The only certainty in life is change itself, and there is nowhere more exciting than Asia to capture this for the years to come.
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