QuoteOriginally posted by: BLOBYI am not a specialist of variance swaps, but it's not so simple : on this position, you don't have gamma risk, only vega risk, so I think you have to combine options (long call and short put) in order to eliminate gamma movements ....In a way, variance swaps are pure gamma risk, since the payout of the floating leg is the sum of the squares of the log returns of the underlyer. Every day/week/etc, you are paying/receiving a fixed amount (or accruing its future value) in exchange for receiving/paying the square of that period's return. A 1Y variance swap is very similar to a 1Y IR swap against O/N or 1w Libor, only you know the libor rate in advance, but you don't know the square of the stock return in advance.Offsetting risk between var swaps and options really is quite simple. If you are worried about what side you are on, see erstwhile's Song for the Gamma Long QuoteOriginally posted by: BLOBYI heard that Long / Short equity desks were hedging their exposition to volatility by shorting Variance Swaps ; it's a good idea, but how do you determine the amount of hedge ?????The amount is sometimes called the skew delta, and no matter what you call it is basically a trade on the correlation between spot return and variance (which is often significantly negative, meaning if you are net long, you should be long variance as a hedge.).
Last edited by exotiq
on May 12th, 2005, 10:00 pm, edited 1 time in total.