لایب سان

Author(s): Saeed Amen (auth.)

Publisher: Palgrave Macmillan UK, Year: 2014

ISBN: 978-1-349-48578-9,978-1-137-39953-3

Contents List of Figures xi Foreword xiii Prologue xv 1 Introduction 1 2 The Basis of Everything Is Water: Understanding Risk in Markets 8 Water as risk 8 The motivation to measure risk 9 Understanding risk in games 11 Oracles rather than probabilities 13 Quantifying financial risk through volatility 15 Structural breaks in volatility regimes 18 Risk sentiment and the impact on market volatility 20 Can we predict shifts in market risk sentiment? We can try . . . 22 RORO your investment boat 23 Understanding implied versus realized volatility 25 Trading risk directly through options 29 Classifying groups of investors by their attitude to risk 31 Does the time horizon of a trading strategy correlate with how risky it might be? 32 Understanding risk through the use of scenarios 33 How can we estimate our maximum possible loss? Using stop losses and take profits is one way 35 Should we even bother to quantify risk if it’s difficult? Yes! 37 3 Harvesting Olives: Alpha and Beta Strategies 39 Olives, presses and Ancient Greece 39 The ancient Olympic Games, the unusual olive trade of Thales, and following your strengths 41 An example of differences between supposedly simple cash markets 43 The ideas of alpha and beta in the present day 46 What if there’s no obvious market beta? 48 Allocating between different market betas 51 Ancient Greek maritime traders, grain, timber, olives, and alternative beta 52 vii viii Contents A practitioner’s thoughts on alternative beta, alpha, and beta 55 Alpha is not always better than beta 56 Do retail investors beat the market beta? Not in our examples 58 Should investors trade alpha or beta? 60 4 The Code of Hammurabi: Reducing Risk 61 The origins of insurance and Hammurabi 61 The concept of diversification when investing 65 The mathematical way to diversify: The good, the bad and the super-leveraged portfolio 67 Alliances amongst Ancient Greek poleis: Hedging specific risks 70 Hedging specific risks in a portfolio: A financial viewpoint 71 Illustrating hedging with an example 72 For times illiquid: A proxy hedge 74 Is diversification always a good thing? Is concentration always a bad thing? 76 Diversification in a hedged world 81 5 Not What They Care About: Having Targets Other than Returns 83 How did Thales’ motivation to trade differ from the investors of today? 83 The problem with only targeting returns 84 What about purely targeting risk within a limit? 87 A tale of two traders 88 Ancient incentives to change trader behavior 89 Using the Sharpe ratio as a target 92 What does the Sharpe ratio fail to capture? 93 Understanding drawdowns in investments 95 Is all volatility bad? Enter the Sortino ratio for targeting investment performance 97 Why should portfolio targets differ between investors? 99 Is reaching an investment target fate? 100 Deviating from our investment mandate can impact our targets 102 A view on targets and risk from an investor 104 Summarizing our journey through investment targets 108 6 Predicting the Eclipse: Searching for a Black Swan and Windows of Doom 109 The solar eclipse foretold by Thales, and Black Swans 109 Black and white swans, and proof by contradiction 110 Defining a Black Swan with examples 111 Black Swans and probabilities 113 Contents ix Are there varying shades of Black Swans? Can we decipher the relative Black Swan-ness of events? 114 The extent of Black Swan-ness depends on proximity to historic events 116 Can we profitably trade Black Swans as a single strategy? Enter the window of doom 118 Using Black Swan strategies as tail-risk hedges within a portfolio 122 Other ways to lessen the impact from Black Swans in the market: Leverage 123 Extended market positioning and Black Swans 125 A final word on Black Swan events 127 7 In the Stars: Lateral Thinking to Understand Markets 130 Thales: A polymath of the ancient world 130 What is lateral thinking, and how does it differ from vertical thinking? 131 The risks from blinkered trading, the opposite of lateral trading! 132 Lateral thinking to the path of an investment idea 135 Noise and signal and time: The battle in making decisions 136 Lateral thinking to a different data angle 138 Foreground versus background versus processed background public information 139 A spurious warning 141 It’s all so obvious (with hindsight) 143 Lateral thinking to a conclusion 144 8 The Silk Road and Its Secrets: Is There Really a “Secret Sauce” in Trading? 146 Images from the Silk Road 146 Blurring the origins 147 The secret of silk 149 Different route, same destination, and the “secret sauce” 150 So what could be the “secret sauce?” The details, rather than the grand idea 152 The mystique of a “secret sauce” 153 Adaptation and diversification is another element of the “secret sauce” 155 Further thoughts on the “secret sauce” 156 Concluding our discussion about the Silk Road 159 9 The Father of History: This Time Is Sometimes Different in Markets 160 Herodotus, the “father of history” 160 Markets change, even if people don’t 162 x Contents Why backtest a trading strategy? 162 Backtesting versus real track record 164 When the data-mining gets too much 166 Historical robustness of a strategy in different market regimes 167 How far back should we look to test a trading idea? 168 The trading style depends on the trader, not on the style 172 Why should history matter for trading? 174 And then it was history! 177 10 A Last Word to Conclude 179 A yard to end 180 Acknowledgments 182 Further Reading 184 Bibliography 185 Index 189

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