We had a brief exchange in yesterday’s chat room regarding tactical approaches to buying volatility and I suggested TLT, which was immediately questioned by one of the members. So, while the EUR/USD continues to flash a pop and drop pattern and lurk about 131.00, this seemed like a good time to clarify my reasoning.
The exchange started with the Prophet himself offering VXX as a means to go long volatility but regular readers know my feelings about VXX and I tend to unconsciously make the sign of he cross whenever it is mentioned . . for me the only tactic with VXX is to short every rally . . it’s an ETN with accelerated decay built in and the ultimate short sellers dream. OK . . back to TLT. Here are 2 approaches to understanding why I think TLT is a great volatility play. . the upper file is the Market Rewind Pairs Analysis tool and I’ve plugged in TLT versus VXX in an effort to confirm the level of correlation expressed as linearity.
Note that the linearity is 95%. It doesn’t get much better than that trader buddies. Of course the naysayers are looking at the negative P&L and crying “Foul”. BUT, you need to scroll down to the bottom of the file and observe the chart of the P&L . . a nice straight line with very little draw-down or periods of slack. This is what I look for and the fact that you just have to reverse the BUY/SELL directions of the the model to create an equivalent up-slope equity curve is something my feeble old brain can still handle. OK . . so there’s still a few doubters.
Now we run the same TLT /VXX pairs using the Project Z algorithm, which is a refinement of the MR Pairs Analysis algorithm and which allows for a time stop and a smoothing factor. This TradeStation model looks back 16 months and you can judge for yourself whether this is a model you would trade for your own account. I would and do. Here the tradeable focus is TLT . . VXX is not traded, it’s value as a volatility tracker is simply used to gauge the relative strength of TLT. Note the number of consecutive losers. Project Z is still on the drawings boards for the retail market and will likely see deployment this spring as a fee based service as part of he Prophet.
Finally, today’s my birthday and while geriatric scientists marvel at my survival and bards sing songs to my continued sustenance, here’s a little musical interlude that pretty well sums it up for me. Enjoy . . live long and prosper.
Related posts:
