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Trading Strategies of the Week: Smart Volatility Long & Short

Any results mentioned or shown are based on simulated or hypothetical performance that have certain limitations. See bottom of this post for full disclosure and important warnings. Past results are not necessarily indicative of future results. Most people lose money when trading. These results are based on statistics that were current as of June 13, 2017, when this profile and article were edited.

We spoke with Collective2 Trade Leader David Juday, the manager behind two popular Collective2 strategies: Smart Volatility Long and Smart Volatility Short. Here is what David had to say about his trading strategy and his background. View strategy performance, including hypothetical monthly returns and subscription costs, inside Collective2. 

David Juday’s strategies act as an insurance company for hedgers and a casino for the speculators.

What are Volatility ETFs?

Nowadays almost everyone is familiar with ETFs, or Exchange Traded Funds. These began as a way for investors to gain exposure to the entire stock market by purchasing just one symbol. The first ETFs allowed people to buy the full S&P index, for example; or the entire Dow Jones Index. It was as easy as buying one share of stock.

Soon, more specific ETFs arose. Instead of buying the entire broad market, a trader could use an ETF to buy a specific sector, such as Utilities or Telecom.

It’s the third wave of ETFs in which I concentrate. These are ETFs that are constructed primarily for short-term speculation, and are designed to move up or down not in response to an entire market, or even to a sub-sector, but rather to certain performance characteristics of the market.

I’m speaking specifically about Volatility ETFs. Some people are less familiar with these, so I’ll explain them (and of course radically simplify them in the process).

Volatility is a mathematical concept which describes how rapidly and “choppily” a market moves.

But what’s interesting about Volatility ETFs is that their prices actually move in response to what other traders believe upcoming market volatility will be.

Most people buy Volatility ETFs for one of two reasons:  either to hedge the rest of their portfolio against a sudden market move, or as speculation — a gamble — that the market will suddenly move. My strategies normally take the opposite side of these kinds of trades. Under normal market conditions, I will be selling Volatility ETFs; so I will be acting as an insurance company for the hedgers and a casino for the speculators. In doing so, I will be collecting the insurance premiums and the gambling losses. Of course, like any insurance company, there will be times that I’ll have to pay out on some losses, but I believe that the premiums I collect over time will offset any losses I have to endure. Even better, I can adjust every day the exposure I have, based on how attractive the premiums are that I collect, and by how much, or whether the odds are in my favor.

I’m betting that nothing is going to change. Quite literally! Whatever is going on today, will be going on tomorrow. Whatever fear exists today, will be fear that exists tomorrow. Whatever complacency exists today, will be complacency that exists tomorrow. I am betting, like Solomon in Ecclesiastes, that ‘there is nothing new under the sun.’

How I trade Volatility

On Collective2, I manage two separate trading strategies: Smart Volatility Long, and Smart Volatility Short.

Smart Volatility Long is more “IRA-friendly” — less leverage, no overt shorting. (Editor’s note: IRA-friendly does not mean it is less risky than other strategies, or is appropriate for all people.)

According to Collective2’s hypothetical statistics, Smart Volatility Long had a 99.7% return in its first year, and a 20% peak-to-valley maximum draw-down.

Summary Statistics. All results are hypothetical. Trading is risky. Most people who trade lose money.

My second strategy, Smart Volatility Short, uses leverage, and had a hypothetical 181% return in its first year with a 31% maximum draw-down.

Both strategies are 90% algorithmic. Each morning and each afternoon, the algorithm  uses data from 8 different sources to calculate the optimal volatility weighting. Then I make trades as needed to bring the strategy portfolio into line with this desired weighting.

I adjust position sizes on a regular basis, but those adjustments have nothing to do with whether the position has been profitable or not. They are based solely on the current market environment, and future predictions, as determined by the model.

Nothing new under the sun?

I spoke earlier about how trading “volatility” is actually a kind of speculation about other people’s speculation. Now let me describe this in more detail, so that I can better explain the core tenets of my trading strategy.

For most of the past 10 years, there has been a significant gap between the valuation of VIX futures and the VIX spot price. That’s a fancy way of saying that trader’s current view of the market volatility is different than their view of how volatility will look in the future. But, by definition, these two values will converge. As we get closer and closer to “the future,” the future looks more like the present! (Or perhaps the present looks more like the future.)

So my basic premise is to take advantage of that convergence: that is, to bet that the future anticipation of volatility will move closer towards the current perception of volatility, as time progresses.

It’s important to understand the risk underlying this strategy. I’m essentially betting that nothing much is going to change. Quite literally! Whatever is going on today, will mostly be going on tomorrow. Whatever fear exists today, will be the same fear that exists tomorrow. Whatever complacency exists today, will be the same complacency that exists tomorrow. I am betting, like Solomon in Ecclesiastes, that “there is nothing new under the sun.”

Now, the moment there is something new under the sun — some fundamental break in market regime or trader psychology — well, then I am going to lose money.

Will it happen? Of course it will, eventually. The calculation here is that these things happen infrequently enough, and with modest enough magnitudes, that over the long term, the strategy pays off. 

Is this a smart bet? Well, for some portion of a person’s speculative portfolio, I think it is. Still, there is risk — of course there is! If something really unusual happens — something really unexpected — when suddenly the future does not look much like the past, well, then we will suffer losses.

Protection

I try to protect the portfolio against some of the risk. I do this through the use of options, which I feel — in a portfolio like this — provide a more precise level of protection than typical stop losses set to trigger at specific prices. Used properly, options allow one to set a maximum short-term loss, in case things go really bad. These are not 100% perfect protection, for many reasons, including that they are time-based and will expire and require re-purchase or re-sale, perhaps at extremely unfavorable terms.  However, I personally sleep much better at night knowing that, as long as the markets are functional, and my options are in place, my losses are limited. (Editor’s Note: Stop losses may not protect against loss in all market conditions.)

Finally, I may use bond and gold ETFs as an additional hedge, depending on the market environment.

About me

I was born in Indianapolis and currently live in Kansas City. I have a diverse resume, including a Bachelor’s degree in Missions and Bible and a Master’s of Divinity.  I served in Christian ministry for several years, but then I decided that wasn’t my calling and went back to school, finishing first in my graduate class with an MBA in Finance. I’ve worked in corporate finance for many years, and now run the resourcing department for a large global clinical research organization.

I love to travel. The travel bug bit me at age 10, when my dad took me to Egypt. I’ve been to 35 countries so far. I love the cultures, the people, and the diverse histories. Travel is something that I plan to do more of in the future.

Thoughts on Collective2

I am always looking for better investment opportunities. During one of my  searches I stumbled upon Collective2. I love the promise of Collective2, which boils down to this: if you are able to find a good trader on the platform, then you can latch on to him or her, and achieve the same results in your own brokerage account… without doing any of the work.

I love the idea behind Collective2 — the idea that anyone with investing and trading skills can benefit other people by publishing their buy and sell signals. It’s like one of those old-fashioned investment newsletters, but on steroids — powered by the Internet.”

Of course there is no such thing as a Holy Grail. Every investing strategy has pros and cons. Every possible reward has a commensurate risk. But the beauty of Collective2 is its radical transparency. It treats people like adults. Investors can sift through a practically infinite catalog of investing strategies, and find one with a risk-and-reward ratio that meets their own needs.


Past results are not necessarily indicative of future results.

These results are based on simulated or hypothetical performance results that have certain inherent limitations. Unlike the results shown in an actual performance record, these results do not represent actual trading. Also, because these trades have not actually been executed, these results may have under-or over-compensated for the impact, if any, of certain market factors, such as lack of liquidity. Simulated or hypothetical trading programs in general are also subject to the fact that they are designed with the benefit of hindsight. No representation is being made that any account will or is likely to achieve profits or losses similar to these being shown.

In addition, hypothetical trading does not involve financial risk, and no hypothetical trading record can completely account for the impact of financial risk in actual trading. For example, the ability to withstand losses or to adhere to a particular trading program in spite of trading losses are material points which can also adversely affect actual trading results. There are numerous other factors related to the markets in general or to the implementation of any specific trading program, which cannot be fully accounted for in the preparation of hypothetical performance results and all of which can adversely affect actual trading results.

Material assumptions and methods used when calculating results

The following are material assumptions used when calculating any hypothetical monthly results that appear on our web site.

  • Profits are reinvested. We assume profits (when there are profits) are reinvested in the trading strategy.
  • Starting investment size. For any trading strategy on our site, hypothetical results are based on the assumption that you invested the starting amount shown on the strategy’s performance chart. In some cases, nominal dollar amounts on the equity chart have been re-scaled downward to make current go-forward trading sizes more manageable. In these cases, it may not have been possible to trade the strategy historically at the equity levels shown on the chart, and a higher minimum capital was required in the past.
  • All fees are included. When calculating cumulative returns, we try to estimate and include all the fees a typical trader incurs when AutoTrading using AutoTrade technology. This includes the subscription cost of the strategy, plus any per-trade AutoTrade fees, plus estimated broker commissions if any.
  • “Max Drawdown” Calculation Method. We calculate the Max Drawdown statistic as follows. Our computer software looks at the equity chart of the system in question and finds the largest percentage amount that the equity chart ever declines from a local “peak” to a subsequent point in time (thus this is formally called “Maximum Peak to Valley Drawdown.”) While this is useful information when evaluating trading systems, you should keep in mind that past performance does not guarantee future results. Therefore, future drawdowns may be larger than the historical maximum drawdowns you see here.
Trading is risky

There is a substantial risk of loss in futures and forex trading. Online trading of stocks and options is extremely risky. Assume you will lose money. Don’t trade with money you cannot afford to lose.

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