Weekend, March 18, 2012

1. A document written by two fixed-income asset managers titled  “Riding the Swaption Curve caught my eye the other day. HERE is the link.  BELOW is the abstract. I post it below to ask all my 427 students what portion of it, they understand, what portion they do not, and what portion they expect to understand, by the end of semester.

ABSTRACT: We propose a novel approach to economically test the presence of a term structure in the volatility risk premium of the swaption market. In general this maturity structure is downward sloping indicating that the volatility risk premium decreases in option maturity. Our test involves an investment strategy that comprises a long-short combination of two straddles where the adjacent maturity neutralizes the vega or gamma exposure of the shorter maturity straddle position. We document that this investment strategy captures the downward sloping term structure by yielding statistically significant though decreasing returns in option maturity. In addition, performance attribution indicates that the time-decay property of derivatives, theta, explains the term structure to a large extend. This explanation is new, but corroborates with the statistical test results from Low and Zhang (2005).

2. Greg Smith helps Goldman take back the title of Vampire Squid  (HERE). His op-ed follows a  letter echoing a similar sentiment (which went viral last week) from an ex JP Morgan fan (HERE).



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