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Volatility Trading, + CD-ROM Hardcover – June 23, 2008
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From the Inside Flap
Successful trading, says Euan Sinclair, is about developing a consistent process. You must have a goal; you must find trades with a clear statistical edge; you must capture that edge and size each trade in a way that is consistent with your goal. Everything else you do must be done within this framework.
In Volatility Trading, Sinclair offers you a quantitative model for measuring volatility in or-der to gain an edge in your everyday option trading endeavors. With an accessible, straightforward approach, he guides traders through the basics of option pricing, volatility measurement, hedging, money management, and trade evaluation. In addition, Sinclair explains the often-overlooked psychological aspects of trading, revealing both how behavioral psychology can create market conditions traders can take advantage of—and how it can lead them astray. Psychological biases, he asserts, are probably the drivers behind most sources of edge available to a volatility trader.
Your goal, Sinclair explains, must be clearly defined and easily expressed—if you cannot explain it in one sentence, you probably aren't completely clear about what it is. The same applies to your statistical edge. If you do not know exactly what your edge is, you shouldn't trade. He shows how, in addition to the numerical evaluation of a potential trade, you should be able to identify and evaluate the reason why implied volatility is priced where it is, that is, why an edge exists. This means it is also necessary to be on top of recent news stories, sector trends, and behavioral psychology. Finally, Sinclair underscores why trades need to be sized correctly, which means that each trade is evaluated according to its projected return and risk in the overall context of your goals.
As the author concludes, while we also need to pay attention to seemingly mundane things like having good execution software, a comfortable office, and getting enough sleep, it is knowledge that is the ultimate source of edge. So, all else being equal, the trader with the greater knowledge will be the more successful. This book, and its companion CD-ROM, will provide that knowledge. The CD-ROM includes spreadsheets designed to help you forecast volatility and evaluate trades together with simulation engines.
From the Back Cover
Praise for VOLATILITY TRADING
“Written by s mathematically literate trader, this concise guide is full of valuable insights –not just for volatility traders but for quantitative traders too. From Zakamouline's optimal delta-hedging approximation to Browne's optimal trade-sizing policy, there is much interesting technical material that is put to work to provide a framework for thinking clearly about practical problems such as: When should we hedge? Should we double up or cut or position? How much capital should we allocate to a trade in the first place? This book raises the discussion of quantitative trading to a new level and I strongly recommend it.”—Jim Gatheral, author of The Volatility Surface: A Practitioner's Guide
“Euan Sinclair’s Volatility Trading fills a neglected gap in financial literature on trading volatility with options and updates and expands on basic works with contemporary strategies, insights, and technical detail. Volatility Trading is uncommonly clear, examples are well chosen, and explanations are thorough without being tedious. Not since Allan J. Baird's Option Market Making has there been a work on volatility strategies as well written and practical. Sinclair's modern treatment is a tremendous resource for options market makers and clients alike as they inescapably take a view on volatility with each position. Volatility Trading is destined to become a classic and is highly recommended for students and practitioners alike.”—James N. Ward, Head of High-Yield Investments, AXA Investment Managers Paris, and Professor of Finance, The American University of Paris
“I wish this book had been available when I started. I had to discover its contents the hard way. It nicely illustrates what successful plain vanilla option trading is all about: a sound quantitative approach coupled with a few robust principles. It also should help to dispel the myth surrounding volatility trading: that is an obscure and highly complex field of phynancial voodoo that only a gifted few have the ability to understand and master.—FDAXHunter, founding member of nuclearphynance.com
“Euan Sinclair provides a unique and valuable insight into the art and science of option trading. With clarity and purpose, he demonstrates how the successful option trader judiciously selects the appropriate quantitative tools for the job–neither too rudimentary nor too complex but just right for each stage of the trading process. I strongly recommend this book to volatility traders and all options who wish to see 'behind the curtain' of option pricing.”—Carl Mason, Chief U.S. Equity Derivatives Strategist, Morgan Stanley
Top Customer Reviews
However, after finishing the book, I had to temper my early recommendation severely: there are far too many obvious errors, which makes me suspect there are probably also many other, less-obvious ones (and causes me to wonder whether all the five-star reviewers here actually read the entire book carefully). A few of the most egregious examples:
* The butterfly payout diagram on p. 77 is upside down!
* Implied and realized vol terms are reversed in formula 5.1.
* "w" in formula 6.2 should be "l".
* p. 105 asks us to "differentiate with respect to x", but there is no "x". "f" is intended.
* Formula 6.11 is rendered nonsense by the very strange term (I am assuming a bizarre typo): "ln[()] 1".
* Missing parens around a subtraction on p. 113, giving the wrong result.
* Typos in formula 7.7 render it useless ("GC" in the numerator means GG, and "GC" in the demoninator means GB).
I searched for an errata list online but to no avail. I think a revised edition is badly in order.
I found the chapter on volatility measurement and forecasting to be particularly useful. Few options traders take the time to understand the efficiency of their volatility estimators. Even fewer could clearly communicate that what we need is a view on the volatility distribution rather than a point forecast when we are trading volatility.
The author's mix of trading philosophy, quantitative intuition, and obvious trading experience is refreshing. The straight-forward no nonsense writing style also makes the book very readable. I would recommend this book to any quantitatively-minded trader. The chapter on money-management alone is easily worth the price of the book.
Please note that Sinclair states that most of the information in " Options, Futures and other Derivatives" by John C Hull is prerequisite to reading his book. Sinclairs book is not suitable for beginners.
There is plenty of rarely covered material in Volatility Trading. For instance, the author develops money managment principles and trade sizing techniques grounded in utility theory. This is almost unheard of in a book on option trading. Professional gamblers, of course, have known and used Kelly for many years, and so have futures traders -- but it seems to be far less known to the option trading world. Optimal hedging and volatility cones are a few of the other topics rarely covered in books of its kind.
There is a reasonably moderate level of mathematical sophistication expected of the reader, who should be comfortable with basic option pricing theory, elementary statistics and calculus. But never does the author tediously drag readers through technical details or difficult derivations -- this is extremely refreshing. It's a results-oriented book, as one would expect of a book aimed at practitioners. There are some spreadsheet demos on the accompanying CD.
The book also nicely covers some of the uses and abuses of statistics, often with strong analogies to baseball. The author assigns proper importance to sample size: for instance he argues that point estimates of volatility are virtually worthless without some measure of the associated error.Read more ›
Most Recent Customer Reviews
As a college student, I have been trading option for a year. During my interview with a prop trading firm, I talked about my option trading experience, and my trading strategy in... Read morePublished 12 months ago by Amazon Customer
The previous reviews are in my opinion fairly accurate. I will add that Sinclair is one of the rare authors who talks about the kelly ratio in the money management section. Read morePublished on December 28, 2011 by Greg
I am a MSc Finance student with no industry experience. I often find the things we get teached at school very theorethical with little connection to practise. Read morePublished on September 16, 2011 by Antti Nikkanen
I am almost done with this book. It is over my head. I am a part time trader. I have a day job. I do not know how to do the math included in this book although I have seen it in... Read morePublished on May 21, 2010 by M. Tulloch
This is a must for any volatility trader. That being said, it offers a lot to people who trade other products, invest, or make decisions about investment managers. Read morePublished on November 10, 2009 by L. Burton
got the book yesterday,[Aug/2008] just finished it . . .
As a commodity guy [NE-Pool electricity, NYMEX Naty, HO, & WTI] that only recently got into trading individual... Read more
I have endorsed this book on the dust jacket already, so it is a bit of a wheeze to restate that this is an excellent, clear, and helpful book for those who (inescapably) take a... Read morePublished on December 19, 2008 by Bachelier
This is one of the best books I have seen on trading. Each and every page in this book has extremely useful information relevant for practical option trading. Read morePublished on September 17, 2008 by Aniruddha Pant