WEBVTT - Sandy Rattray on Strategic Risk Management 0:00:00.080 --> 0:00:06.080 M. This is Mesters in Business with Very Renaults on 0:00:06.240 --> 0:00:11.479 Bluebird Radio. This week on the podcast, I have an 0:00:11.520 --> 0:00:16.160 extra special guest. What can I say about Sandy rat Trey. 0:00:16.239 --> 0:00:20.200 He is the chief investment officer of the Man Group, 0:00:20.239 --> 0:00:25.160 which manages over a hundred and twenty five billion dollars UH. 0:00:25.200 --> 0:00:28.960 He's the co inventor of the VIX index. He has 0:00:29.480 --> 0:00:36.200 an incredible career UH both in UH equity research and 0:00:36.600 --> 0:00:41.839 for derivatives as well as systematic investing UM. He's just 0:00:41.920 --> 0:00:43.400 a rock star. I don't know what else to say 0:00:43.440 --> 0:00:47.000 about it. The track record that the Man Group has amassed, 0:00:47.479 --> 0:00:52.120 as well as how they've pushed forward UM portfolio construction 0:00:52.880 --> 0:00:58.880 theory is really incredibly, incredibly influential. Not only was he 0:00:59.000 --> 0:01:03.160 the co inventor of the VIX index, but he's written 0:01:03.280 --> 0:01:08.280 extensively about risk management and how to design portfolios and 0:01:08.880 --> 0:01:12.000 you know what to expect when you're expecting a black swan, 0:01:12.080 --> 0:01:15.960 which you by definition can't know what to expect, and 0:01:16.280 --> 0:01:18.840 how to build strategies that give you some degree of 0:01:18.880 --> 0:01:23.000 protection against this. If you're remotely interested in hedge funds, 0:01:23.000 --> 0:01:28.280 asset management, quantitative strategies, the VIX and managing risk well 0:01:28.319 --> 0:01:32.319 strap yourself in because this one, uh is a good one. 0:01:32.720 --> 0:01:37.560 With no further ado, my conversation with Sandy Retrey of 0:01:37.600 --> 0:01:43.480 the Man Group. This is Masters in Business with very 0:01:43.520 --> 0:01:49.520 Renaults on Bluebird Radio. My extra special guest this week 0:01:49.680 --> 0:01:53.520 is Sandy Retrey. He is the chief Investment Officer of 0:01:53.560 --> 0:01:56.520 the Man Group. He is also on the Executive Committee 0:01:56.560 --> 0:02:00.600 and the Responsible Investment Committee. He is per Apps most 0:02:00.600 --> 0:02:06.000 famously the co inventor of the VIX index. He's also 0:02:06.360 --> 0:02:10.240 run a number of different systematic strategies for Man and 0:02:10.360 --> 0:02:15.000 other organizations. The Man Group's assets under management are over 0:02:15.080 --> 0:02:18.680 a hundred and twenty billion dollars and Sandy is the 0:02:18.760 --> 0:02:23.120 co author of the book Strategic Risk Management, Designing Portfolios 0:02:23.120 --> 0:02:28.360 and Managing Risk. Sandy Retree, Welcome to Bloomberg. Great, Thank 0:02:28.360 --> 0:02:30.400 you very much, Perry. It's good to be with you. 0:02:30.720 --> 0:02:34.080 So you have a really interesting background. You're deeply steeped 0:02:34.080 --> 0:02:37.120 in mathematics. How did you find your way into the 0:02:37.160 --> 0:02:42.000 investment business? So it's a it's a long story. I 0:02:42.080 --> 0:02:45.400 as a teenager, I thought I would become a theoretical 0:02:45.440 --> 0:02:49.280 physicistem that was my ambition. I went to Cambridge University 0:02:49.360 --> 0:02:53.120 to study physics, and I really discovered a number of 0:02:53.120 --> 0:02:56.840 things at that time. Number one, UM, I was I 0:02:56.880 --> 0:02:59.200 thought quite good at physics. Turned out that I surrounded 0:02:59.240 --> 0:03:00.880 myself for the whole bund of other people are also 0:03:00.919 --> 0:03:05.919 pretty good, and really standing out was hard Um. And Second, 0:03:06.320 --> 0:03:11.040 I think at the time the amount of innovation that 0:03:11.120 --> 0:03:13.120 was taking place in physics seemed to have sort of 0:03:13.280 --> 0:03:16.720 dropped off a little bit from the nineteen seventies and 0:03:16.720 --> 0:03:18.280 and it was a sort of slow period in the 0:03:18.320 --> 0:03:20.880 late nineteen eighties, and so that made me think, well, 0:03:20.960 --> 0:03:24.400 maybe I could use these math skills for something else. 0:03:24.720 --> 0:03:29.000 And that really got me into thinking about finance. So 0:03:29.040 --> 0:03:33.000 I some people duck out of physics having done PhD 0:03:33.160 --> 0:03:37.360 s or or taught at universities. I ducked out a 0:03:37.360 --> 0:03:40.760 little bit earlier on UM, and that got me into them, 0:03:40.760 --> 0:03:43.680 thinking well I should use these skills. I end up 0:03:43.800 --> 0:03:48.360 joining Golden Sacks, and and there again I learned something 0:03:48.480 --> 0:03:51.960 which was I thought the exciting bit would be the 0:03:52.160 --> 0:03:57.600 corporate finance areas, so advising on major corporate transactions, and 0:03:57.640 --> 0:04:00.080 what I realized was that that didn't really use the 0:04:00.520 --> 0:04:02.600 quantz skills that I had. So I did that for 0:04:02.640 --> 0:04:06.080 a couple of years, and then I moved over to 0:04:06.320 --> 0:04:10.400 first sixt income research, then equity derivators research, and then 0:04:10.480 --> 0:04:15.240 finally transitioned out of that into UM into more proprietary trading, 0:04:15.280 --> 0:04:19.760 and then into fund management. So let's build off of that. 0:04:19.839 --> 0:04:22.799 You did a lot of work on derivatives and fundamental 0:04:22.839 --> 0:04:27.120 strategy of government. You then go to MAN where you're 0:04:27.200 --> 0:04:32.080 running things like systematic strategies and a h L. What 0:04:32.560 --> 0:04:36.480 was man h L focused on when you were managing that. 0:04:37.200 --> 0:04:41.880 So when I arrived at h L, which was the 0:04:42.080 --> 0:04:45.520 end of two thousand and twelve, was really a futures 0:04:45.520 --> 0:04:50.280 trend following business. It was c t A and c 0:04:50.400 --> 0:04:54.080 t as have been having a pretty difficult time really 0:04:54.120 --> 0:04:56.360 since the end of the financial crisis. They had a 0:04:56.360 --> 0:05:00.920 tremendous two thousand eight and then that really done nothing 0:05:00.960 --> 0:05:05.440 in the following years. So nine eleven, twelve, we're all 0:05:05.839 --> 0:05:08.960 years which essentially added up to nothing. So the fantastic 0:05:09.440 --> 0:05:12.640 crisis here. Very few as the marriagers could say that 0:05:12.640 --> 0:05:15.680 two thousand eight was a great year, but HL could 0:05:15.680 --> 0:05:18.600 definitely say that. But then you had a long dry 0:05:18.640 --> 0:05:22.520 period and people were starting to say momentum doesn't work anymore. 0:05:22.640 --> 0:05:27.120 It's broken. And I think what I really did when 0:05:27.120 --> 0:05:29.599 I arrived in NHL it was to say, well, I've 0:05:29.600 --> 0:05:32.080 been involved in all sorts of different quant strategies in 0:05:32.120 --> 0:05:37.240 my golden years, and I can use a much broader 0:05:37.279 --> 0:05:41.160 perspective than maybe the futures trend followers had and look 0:05:41.279 --> 0:05:45.760 to develop a much wider range of systematic stranities. So 0:05:45.800 --> 0:05:49.600 when I arrived, we had a handful of models UM. 0:05:49.640 --> 0:05:53.680 Today we've got three or four models running in HL, 0:05:53.800 --> 0:05:57.279 so we really expanded number of models we're using. UM, 0:05:57.320 --> 0:05:59.880 we expanded the number of markets that were trading, so 0:06:00.080 --> 0:06:06.200 we used to trade futures, UM and effects markets and 0:06:07.160 --> 0:06:09.680 my group it started trading OTC markets, but it was 0:06:09.720 --> 0:06:12.880 still quite small UM, and we really picked up and 0:06:12.960 --> 0:06:16.279 start trading much wider variety of markets. So now we 0:06:16.360 --> 0:06:21.560 trade around seven markets around the world using system addic models. 0:06:21.920 --> 0:06:24.760 And then finally we came up with different many different 0:06:24.760 --> 0:06:27.920 types of funds, so very short term funds, funds which 0:06:27.920 --> 0:06:31.960 are more fundamentally driven, funds which are maybe trying to 0:06:32.560 --> 0:06:36.000 provide more protection characteristics, or funds trying to maximize the 0:06:36.040 --> 0:06:39.800 sharp ratio. So so we really tried to grow quant 0:06:39.880 --> 0:06:44.839 into many different areas. And I suppose my advantage coming 0:06:44.839 --> 0:06:47.920 into a place like h L is that most people 0:06:48.560 --> 0:06:52.080 in those HL and in the competitors had really grown 0:06:52.160 --> 0:06:55.159 up and had the whole careers in the in the 0:06:55.240 --> 0:06:57.800 c t A or the futures trend following business, and 0:06:57.880 --> 0:06:59.960 I had had none of my career and futures try 0:07:00.000 --> 0:07:02.880 and following, and but I had all these other influences 0:07:02.920 --> 0:07:05.640 that I could bring in, And so that really was 0:07:05.720 --> 0:07:09.120 how I worked with the team now to significantly expand 0:07:10.000 --> 0:07:13.480 UM the business which was having a very difficult time 0:07:13.480 --> 0:07:18.760 and arrived and UM declined to lesson ten billion dollars 0:07:18.800 --> 0:07:22.480 of assets in the h L unit and today were 0:07:23.320 --> 0:07:27.080 many times launcher than now. So I want to focus 0:07:27.120 --> 0:07:30.400 on something you mentioned in passing, but it's so relevant 0:07:30.800 --> 0:07:33.600 to what we've been seeing in the markets recently. You 0:07:33.720 --> 0:07:38.120 said that momentum as a factor seemed to have been fading. 0:07:38.760 --> 0:07:43.640 We've seen other factor based investing like value, go long 0:07:43.760 --> 0:07:47.880 long periods of underperforming. There's so many different questions I 0:07:48.240 --> 0:07:51.680 can ask you about this. Let's just start with is 0:07:51.760 --> 0:07:56.840 that the nature of any factor or any specific trading 0:07:56.920 --> 0:08:00.560 edge that they only last so long before eventually everybody 0:08:00.560 --> 0:08:04.200 wise is up to them and the alpha gets arbitraged away. 0:08:04.240 --> 0:08:07.400 And do you see these sort of edges disappearing more 0:08:07.480 --> 0:08:13.080 quickly these days then they used to in a perhaps kindler, 0:08:13.160 --> 0:08:17.480 gentler era twenty or thirty years ago. So, um, I 0:08:17.560 --> 0:08:19.960 agree actually with everything you said, Barry, except for the 0:08:20.040 --> 0:08:22.840 last bit about kind of legenter era. From my memory 0:08:22.880 --> 0:08:24.880 twenty or thirty years ago, it was probably less kind 0:08:24.960 --> 0:08:29.119 and less gentle than it is today. Um, But let's 0:08:29.280 --> 0:08:33.040 let's start with factors. So I think one of the 0:08:33.040 --> 0:08:36.360 things which has been interesting over my career is nobody 0:08:36.360 --> 0:08:39.440 really talked about factors apart from a very small sort 0:08:39.480 --> 0:08:42.520 of quant group twenty thirty years ago. Today they're in, 0:08:42.920 --> 0:08:44.920 you know that they're sort of part of all our 0:08:44.960 --> 0:08:48.480 portfolio marriagers at Man Group, whether they're quants or discretion marriages. 0:08:48.520 --> 0:08:51.600 Everybody talks factors and so that's been a big change, 0:08:51.600 --> 0:08:54.640 and they've become sort of part of, you know, just 0:08:54.679 --> 0:08:58.840 sort of general dialogue when people are talking about markets. 0:08:59.640 --> 0:09:04.280 The thing I'd say is that I don't think that, um, 0:09:05.080 --> 0:09:07.680 the core factors which have been around in a long 0:09:07.720 --> 0:09:11.960 time are going to disappear. And for me, you know, 0:09:11.960 --> 0:09:14.680 as a European, I was working in New York in 0:09:14.679 --> 0:09:17.720 the late nine nineties and into the two thousand's, and 0:09:17.760 --> 0:09:20.079 I remember looking at front page of the Wall Street 0:09:20.160 --> 0:09:24.599 Journal one day and on it it said value investing 0:09:24.679 --> 0:09:28.360 is for old people and um and I you know, 0:09:28.360 --> 0:09:30.680 as the European obviously, you know Europeans want to live 0:09:30.720 --> 0:09:33.319 in old houses. Clearly in the US people mostly want 0:09:33.320 --> 0:09:34.840 to live in new houses. So it's a big sort 0:09:34.840 --> 0:09:40.600 of didn't quite understand that the the the extent of 0:09:40.720 --> 0:09:43.600 the statement there, and it was a ridiculous thing to say. 0:09:43.640 --> 0:09:45.480 I was a young person being included in the front 0:09:45.480 --> 0:09:48.760 page of the Wall Street Journal, right in the tail 0:09:48.920 --> 0:09:51.280 end of the tech bubble and just before a huge 0:09:51.440 --> 0:09:57.400 outperformance of value stocks. So these factors and we should 0:09:57.440 --> 0:09:59.880 talk about, you know, which are the which are the 0:10:00.000 --> 0:10:02.040 actors that are likely to persist in which are not 0:10:02.720 --> 0:10:08.880 um But factors like value for example, I think generally 0:10:08.920 --> 0:10:12.640 don't have particularly high sharp ratios, so they're their returns 0:10:12.679 --> 0:10:16.840 adjusted for risk are not particularly high. But the idea 0:10:16.920 --> 0:10:20.160 that buying cheap stocks will never work again, I've never 0:10:20.200 --> 0:10:23.240 thought that was a sensible thing to say or think, 0:10:23.559 --> 0:10:25.040 but every now and then, you know, that's what this 0:10:25.120 --> 0:10:27.440 fellow on the front page of the journal said um 0:10:27.600 --> 0:10:31.840 twenty odd years ago. So I think factors, at least 0:10:31.920 --> 0:10:37.040 a core set of factors are very likely to persist, 0:10:37.200 --> 0:10:40.079 but it won't give particularly amazing risk adjusted returns, But 0:10:40.120 --> 0:10:42.760 I think they are likely to give you positive risk 0:10:42.800 --> 0:10:47.960 adjusted returns over you know, relatively long cycles. I would say, though, 0:10:48.000 --> 0:10:50.720 that one of the things I've seen in the last 0:10:50.720 --> 0:10:54.520 ten years or so is as people thought they understood factors, 0:10:54.559 --> 0:10:57.200 and people started to find hundreds of these things. And 0:10:57.320 --> 0:11:00.240 I don't think there are hundreds of real factors. Think 0:11:00.280 --> 0:11:05.520 there's a small handful um of factors, and this explosion 0:11:05.640 --> 0:11:09.880 really is an overfitting exercise. It's people finding patterns in 0:11:09.920 --> 0:11:13.080 the data that don't really exist, and I think that's 0:11:13.120 --> 0:11:15.640 something that people should be very wary of. You know, 0:11:15.679 --> 0:11:21.319 I've seen data providers and firms sell their libraries of 0:11:21.400 --> 0:11:24.520 factors with with you know, literally hundreds of these things, 0:11:24.559 --> 0:11:26.600 and I don't think that's going to be a source 0:11:26.640 --> 0:11:29.440 of returns. The final thing I should say is that 0:11:29.640 --> 0:11:32.280 you mentioned momentum, and momentum is quite an interesting factor 0:11:33.040 --> 0:11:39.199 because there are two very different definitions of momentum. One 0:11:39.679 --> 0:11:43.640 is really used by equities people and they will go 0:11:43.760 --> 0:11:48.679 along the positive momentum price momentum stocks and short the 0:11:48.720 --> 0:11:51.560 negative price momentum stocks. They sometimes do it with earnings 0:11:51.559 --> 0:11:55.000 as well, but basically go along the stocks which have 0:11:55.080 --> 0:11:57.720 been out performing and short the stocks which have been 0:11:57.760 --> 0:12:01.880 under performing. But then is a very different definition of momentum, 0:12:02.160 --> 0:12:03.720 and that's what the c t as use, And they 0:12:03.760 --> 0:12:06.680 don't they don't look at the price move against anything. 0:12:06.880 --> 0:12:08.960 They just do it in absolute terms. And they tend 0:12:09.000 --> 0:12:11.800 to do that in macro markets. So they'll create the 0:12:11.920 --> 0:12:19.000 SMP or the or the the dacks or the euro 0:12:19.520 --> 0:12:22.560 or gold or something like that. And and that's a 0:12:22.679 --> 0:12:25.720 much different definition because it's not it's not going long 0:12:25.800 --> 0:12:28.320 one set of markets and or one set of stocks 0:12:28.320 --> 0:12:30.480 and short another set of stocks. It could be long everything, 0:12:30.559 --> 0:12:32.680 or it could be short everything, and it gives you 0:12:32.720 --> 0:12:36.400 a very different type of return profile. That second type 0:12:36.840 --> 0:12:42.679 has a very nice feature, which is that it barely 0:12:42.800 --> 0:12:46.480 reliably will do well in bad periods in markets. So 0:12:46.480 --> 0:12:49.640 I talked about how, for example, HL two thousand eight 0:12:49.720 --> 0:12:53.760 was an excellent year. Well, not many strategies that could 0:12:53.760 --> 0:12:55.680 say two thousand eight was an excellent year. And that's 0:12:55.720 --> 0:12:59.160 because that second definition of momentum what I would call 0:12:59.240 --> 0:13:04.480 time series momentum the or univariate momentum. That that definition 0:13:04.559 --> 0:13:08.760 momentum has very good protection like characteristics. It will pick 0:13:08.840 --> 0:13:11.800 up on a trend, especially in negative trend in markets, 0:13:11.840 --> 0:13:15.360 and jump on that trend. So it sounds like the 0:13:15.440 --> 0:13:21.640 price momentum seems to be relative, while the time series 0:13:21.679 --> 0:13:25.439 has a persistence that gives it a very different characteristic. 0:13:25.600 --> 0:13:28.320 Or am I oversimplifying that? No? No, I think that's 0:13:28.320 --> 0:13:33.160 exactly right. So I think you know, the most investing strategies, 0:13:33.360 --> 0:13:39.200 including price momentum and equities, but most investing strategies have 0:13:39.400 --> 0:13:41.559 what people like me would call a left tail, so 0:13:41.679 --> 0:13:43.760 it make you money most of the time, and then 0:13:43.800 --> 0:13:46.400 every now and then they serve your up an unpleasant surprise. 0:13:47.559 --> 0:13:52.080 Time series momentum does the opposite. Time series amentum most 0:13:52.120 --> 0:13:55.280 of the time gives you pretty boring returns, but every 0:13:55.320 --> 0:13:57.360 now and then I'll give you a very positive surprise. 0:13:57.640 --> 0:14:02.720 And and that's really rare in investing strategies. And from 0:14:02.720 --> 0:14:06.079 my perspective, that's you know, that's a very attractive characteristic 0:14:06.120 --> 0:14:08.959 when you're building portfolios, to have a bit of something 0:14:09.000 --> 0:14:12.959 which does the opposite of most other investing strategies. Let's 0:14:13.000 --> 0:14:15.960 talk a little bit about the VIX index, which you 0:14:16.480 --> 0:14:20.400 were the co inventor of tell us. How does one 0:14:20.440 --> 0:14:25.000 go about inventing the VIX index? Well, you know very 0:14:25.040 --> 0:14:29.240 In short, you get lucky. So the the story behind 0:14:29.360 --> 0:14:33.200 it is, as we talked about in our earlier segment. 0:14:33.400 --> 0:14:36.320 I was working in New York basically and see clients 0:14:36.360 --> 0:14:38.560 and every time you went to somebody's office to be 0:14:38.600 --> 0:14:42.520 a TV screen in the in the fire in the 0:14:42.640 --> 0:14:45.560 entrance area, and they would have prices of all sorts 0:14:45.600 --> 0:14:47.880 of things coming across that screen, you know, the sort 0:14:47.880 --> 0:14:51.160 of the price of crude ale, the treasury bond yield, 0:14:51.160 --> 0:14:53.000 the sple hundred level, that sort of thing, and it 0:14:53.040 --> 0:14:55.720 would have the VIX on it. And so there was 0:14:55.760 --> 0:14:58.560 a VIX, but that was the VIX was the only 0:14:58.600 --> 0:15:00.600 thing that seemed to come across the greens that you 0:15:00.640 --> 0:15:06.640 couldn't trade. And so the story really came because a 0:15:06.800 --> 0:15:09.320 colleague of mine at Golden Sacks came to me one 0:15:09.360 --> 0:15:12.320 evening and said, you know, I've had this call um 0:15:12.360 --> 0:15:15.360 from a client who wants to do a trade on 0:15:15.400 --> 0:15:20.040 the VIX. Could we do that? And my colleague ran 0:15:20.720 --> 0:15:24.360 options trading and I ran the drug to his research 0:15:24.920 --> 0:15:31.200 a bit of Goldman and we got our heads together 0:15:31.360 --> 0:15:33.760 and I went and found the formula for the VIX 0:15:33.880 --> 0:15:36.920 as stood as as pre existed, and we worked at 0:15:37.000 --> 0:15:38.920 it just wasn't possible for us to do a trade 0:15:38.960 --> 0:15:41.240 on that. It wasn't designed in a way that you 0:15:41.320 --> 0:15:47.400 could hedge a trade on the VIX. So we came 0:15:47.480 --> 0:15:49.800 up with a kind of crazy idea which was, Okay, 0:15:49.800 --> 0:15:52.240 well there's this VIX thing which was owned by the 0:15:52.280 --> 0:15:55.560 cbo E, but you couldn't trade it. And there was 0:15:55.560 --> 0:15:57.120 a good reason why you couldn't trade it, because you 0:15:57.120 --> 0:16:00.120 couldn't hedge it. So why don't we change it? And 0:16:00.320 --> 0:16:03.880 so we came up with a completely different formula. It 0:16:03.920 --> 0:16:08.200 turned out to give fairly similar levels to the old VIX, 0:16:09.200 --> 0:16:11.680 but but it was a completely different formula, didn't use 0:16:11.680 --> 0:16:15.680 black sholes at all and um and we thought, well, hey, 0:16:15.720 --> 0:16:20.960 this this formula actually you could hedge UM futures contract 0:16:21.080 --> 0:16:24.480 on or something like that. And so what we then 0:16:24.520 --> 0:16:29.000 did is I was quite friendly with a fellow called 0:16:29.000 --> 0:16:32.440 Bill Speth, but the CBOE, who has had of research there. 0:16:32.920 --> 0:16:34.880 And I called Bill and said, you know, you have 0:16:35.000 --> 0:16:36.720 this VIX but you make no money out of it, 0:16:36.760 --> 0:16:39.240 because you just published this thing and doesn't give you 0:16:39.280 --> 0:16:42.200 any income. And we've got an idea how you could 0:16:42.280 --> 0:16:45.560 change it to make it something that could be traded, 0:16:45.600 --> 0:16:47.680 and maybe you could launch futures contracts on that, and 0:16:47.720 --> 0:16:50.120 so that might be interesting to you. And then I 0:16:50.240 --> 0:16:52.840 launched into a long description of the math behind that formula, 0:16:53.320 --> 0:16:56.680 and UM Bill very wisely said, you know, maybe you 0:16:56.680 --> 0:16:59.160 could send me a letter with that formula. So so 0:16:59.200 --> 0:17:02.640 I sent him a letter and which was actually, with 0:17:02.680 --> 0:17:04.600 the benefit of findset quite helpful because now I have 0:17:04.640 --> 0:17:07.920 a quite clear record of when we communicated this formula 0:17:08.640 --> 0:17:12.119 in two thousand three to the cbo E UM and 0:17:13.200 --> 0:17:16.360 UM and within six months we had a new VIX 0:17:16.880 --> 0:17:21.320 being calculated using this new formula, and another six months 0:17:21.359 --> 0:17:24.600 later the cbo E, which until that point was only 0:17:24.640 --> 0:17:28.520 an options exchange, had launched futures contracts on it. And 0:17:28.560 --> 0:17:30.919 so there was a series of sort of you know, 0:17:31.040 --> 0:17:33.880 lucky moments in there. A client came and asked a question. 0:17:34.680 --> 0:17:37.760 I happened to know Bill at the cbo E, so 0:17:38.080 --> 0:17:41.640 I knew somebody to call. They happened to be interested 0:17:41.720 --> 0:17:46.000 in in launching futures contracts and our timing was was 0:17:46.040 --> 0:17:49.920 spot on. So there was a whole series of bits 0:17:49.960 --> 0:17:53.280 of luck along the way. And what really happened after 0:17:53.320 --> 0:17:57.240 that is another good learning experience for me, which is 0:17:57.720 --> 0:17:59.680 at a boss at the time who said, look, you 0:17:59.680 --> 0:18:02.320 should talk to all the salespeople and find out if 0:18:02.320 --> 0:18:05.960 they're gonna bring in business on this new Vix thing 0:18:06.080 --> 0:18:07.800 that you've been working on. So I spoke to the 0:18:07.840 --> 0:18:10.720 salespeople and we did a little survey, and you know, 0:18:10.760 --> 0:18:14.120 I was going to retire on the proceeds of this survey. 0:18:14.119 --> 0:18:16.199 It was just amazing how much business we were going 0:18:16.240 --> 0:18:19.000 to do. Day one comes along, I wait for the 0:18:19.040 --> 0:18:22.359 phone to ring, and it doesn't ring. They two comes along, 0:18:23.119 --> 0:18:26.320 the phone still doesn't ring, and by day three you 0:18:26.400 --> 0:18:30.440 sort of get it. You know, it's nothing's happening. And amazingly, 0:18:30.560 --> 0:18:33.119 the first significant trades we got done were actually with 0:18:33.240 --> 0:18:37.439 investors outside of the us UM and they were the 0:18:37.440 --> 0:18:39.480 people that still have got the early stages of this 0:18:39.680 --> 0:18:43.080 new market in in Vix going. The other thing that 0:18:43.160 --> 0:18:46.639 happened was my boss said, you should call, you know, 0:18:46.680 --> 0:18:48.920 some of the other banks and and see if they're 0:18:48.920 --> 0:18:52.040 going to support this thing. So I called nine other banks, 0:18:52.080 --> 0:18:54.280 and nine out of nine said they had no interest 0:18:54.320 --> 0:18:58.080 in supporting it. So it wasn't a particularly auspicious beginning, 0:18:58.520 --> 0:19:00.920 you know that, And it took a little bit of persistence. 0:19:00.920 --> 0:19:05.480 Now today it's this huge market and it trades enormous volumes, 0:19:05.520 --> 0:19:09.240 but it's a good sort of lesson in terms of 0:19:09.240 --> 0:19:12.639 how difficult it is to get something new going. So 0:19:12.640 --> 0:19:14.800 so let's talk a little bit about what the VIX 0:19:14.880 --> 0:19:20.360 index does and some of the misunderstandings around it. When 0:19:20.440 --> 0:19:24.720 when you talk to people, especially traders on the equity side, 0:19:25.160 --> 0:19:29.360 they look at it as the fear index. It measures volatility, 0:19:29.400 --> 0:19:35.840 but but to be more precise, it's really measuring volatility expectations. Right, Yes, 0:19:36.160 --> 0:19:40.720 I think the the word fear gauge or fear index 0:19:40.960 --> 0:19:45.880 is actually pretty accurate. But you're also absolutely correct that 0:19:46.480 --> 0:19:51.479 what the VIX actually is is the market's expectation of 0:19:51.600 --> 0:19:56.679 alterality over the next thirty calendar days. And so it 0:19:56.880 --> 0:20:04.000 is a it's a market price, and inevitably because the 0:20:04.200 --> 0:20:07.840 volatality cannot mathematically go below zero, there's no such thing 0:20:07.880 --> 0:20:11.680 as vaultality below zero. But it's unlimited on the upside, 0:20:11.720 --> 0:20:14.720 you know, there's no limit to how high vaultality can be. 0:20:15.080 --> 0:20:16.640 Then if you go to the market and say, hey, 0:20:16.680 --> 0:20:19.920 give me a price for the next thirty days of alterality, 0:20:20.000 --> 0:20:22.320 it's generally going to overestimate because it's going to have 0:20:22.400 --> 0:20:25.960 to protect itself a bit against the possibility of huge 0:20:25.960 --> 0:20:28.480 swings upwards and the fact that there's a floor. It 0:20:28.520 --> 0:20:32.640 can't go below zero. So your description is absolutely correct. 0:20:33.080 --> 0:20:38.040 It's the market's expectation of realized volatility over the next 0:20:38.080 --> 0:20:41.760 thirty calendar days, but it has some features built into it. 0:20:41.760 --> 0:20:46.080 It's always going to overestimate because you're effectively selling insurance 0:20:46.119 --> 0:20:48.880 if you're selling the vics and and people don't sell 0:20:48.960 --> 0:20:51.720 insurance cheap for the most part. That makes a whole 0:20:51.720 --> 0:20:54.120 lot of sense. I know that a lot of traders 0:20:54.160 --> 0:20:59.560 seem to conflate volatility with risk. How do you define 0:20:59.600 --> 0:21:02.359 the different is between the two. It's a very good question, 0:21:02.359 --> 0:21:05.000 and I think you know something I've thought about a 0:21:05.080 --> 0:21:09.840 lot over the years, um and there's many different versions 0:21:09.880 --> 0:21:13.840 of this. I think so most models, most risk models 0:21:13.920 --> 0:21:18.280 do estimate volatility. They give you a var number, which 0:21:18.359 --> 0:21:24.240 is basically a manipulated volatility number, or a risk in 0:21:24.359 --> 0:21:28.000 stand deviations, or an expectation of loss or something like that, 0:21:28.720 --> 0:21:33.280 and they're useful numbers, but in the end, I'm pretty 0:21:33.320 --> 0:21:37.359 sure that both you and certainly I would never clue 0:21:37.400 --> 0:21:41.880 what the volatility of our personal portfolios was last year 0:21:41.960 --> 0:21:45.040 in a very volatile year. But we have a pretty 0:21:45.040 --> 0:21:47.359 good idea of what the worst point is, you know, 0:21:47.400 --> 0:21:50.120 when when we have the most losses of most pain 0:21:50.240 --> 0:21:53.720 in our portfolios, and that's got nothing to do with voltility. 0:21:53.800 --> 0:21:57.160 That's a draw down. So in the end, actually the 0:21:57.280 --> 0:21:59.840 risk that a lot of us really experience and worry 0:21:59.880 --> 0:22:04.879 of out his drawdowns. It's not volatility, which is mathematical 0:22:04.920 --> 0:22:08.000 formula which describes the shape of a of a distribution, 0:22:08.600 --> 0:22:12.840 and that I think is something which is difficult because 0:22:13.000 --> 0:22:18.760 estimating drawdowns is extremely hard. Estimating volatility is actually fairly straightforward. 0:22:19.040 --> 0:22:21.760 But the two don't really connect. And so why do 0:22:21.800 --> 0:22:24.680 people estimate volatility? Because it's useful. It gives you how 0:22:24.680 --> 0:22:28.640 wide the distribution will be. You can estimate it quite accurately, 0:22:28.680 --> 0:22:30.959 you can forecast it quite well as well. You can 0:22:31.000 --> 0:22:34.439 forecast volatality much better than you can forecast returns. So 0:22:34.480 --> 0:22:37.040 all of that is useful. But what's not useful is 0:22:37.080 --> 0:22:41.640 that we don't really worry in the end about what 0:22:41.680 --> 0:22:44.840 I've altilt he was last year or what it will 0:22:44.880 --> 0:22:46.919 be next year. What we really worry about is how 0:22:47.000 --> 0:22:49.560 much we lost or how much we might lose. That 0:22:49.680 --> 0:22:53.760 sort of that that pain threshold, and volatility doesn't really 0:22:53.840 --> 0:22:58.960 connect with that. So unfortunately, really useful statistic drawdowns very 0:22:58.960 --> 0:23:02.159 hard to estimate, and people don't really estimate it. The 0:23:02.200 --> 0:23:05.960 other statistic volatility is useful, but it's in my view, 0:23:06.000 --> 0:23:09.760 not the most useful estimate of of of risk because 0:23:09.800 --> 0:23:13.760 we actually experience it. That's that's really kind of intriguing. 0:23:14.320 --> 0:23:18.960 So so not only can you go long the vix um, 0:23:18.960 --> 0:23:21.720 but some people can go short the VIX not not 0:23:21.880 --> 0:23:26.159 exactly um a hedge if you have a long portfolio, 0:23:26.240 --> 0:23:29.200 but I guess if you're short, maybe that that useful. 0:23:29.359 --> 0:23:33.000 What do you think of of how people have been 0:23:33.240 --> 0:23:36.679 using the VIX, either as a risk management tool or 0:23:36.720 --> 0:23:40.240 as a way to UM get some non correlated exposure 0:23:40.280 --> 0:23:43.360 to their to their equity holdings. Well, I think there's 0:23:43.359 --> 0:23:49.359 a few things in there. Firstly, the the VIX and 0:23:49.440 --> 0:23:52.840 the price of futures on the VIX will nearly always 0:23:53.240 --> 0:23:56.480 disagree in generally, the futures will be higher than the 0:23:56.520 --> 0:23:59.359 current level. So you know, as we're speaking now, the 0:23:59.440 --> 0:24:03.920 VIX is a round sixteen better futures contract three months 0:24:03.920 --> 0:24:07.919 out is trading at almost twenty one, so five points higher, 0:24:08.160 --> 0:24:10.600 and that is a normal state of affairs. And as 0:24:10.600 --> 0:24:14.560 we talked about earlier on voltialty, because voltality can't go 0:24:14.640 --> 0:24:17.359 below zero than people, and it can go to an 0:24:17.440 --> 0:24:22.639 unlimited upside level than people, generally the market will overestimate 0:24:23.440 --> 0:24:26.040 volatilty to give it a little bit of an insurance 0:24:26.040 --> 0:24:30.240 premium in there. Now, in terms of trading and investing 0:24:30.440 --> 0:24:33.160 with the VIX, I think this thing is quite important 0:24:33.240 --> 0:24:35.560 to know. So if you buy an ETS on the VIX, 0:24:35.640 --> 0:24:37.840 for example, then it is going to have to hedge 0:24:37.840 --> 0:24:41.640 itself with these futures contracts, and these futures contracts will 0:24:41.680 --> 0:24:45.560