Returns to tail hedging

Bell, Peter N (2015): Returns to tail hedging.

Abstract

Tail hedging is a portfolio management strategy meant to reduce the risk of large losses. For an investor who holds a stock market index fund, the strategy entails buying out of the money put options on the index. Research suggests the strategy works well in practice and I explore the returns to tail hedging in a simple theoretical model. I calculate descriptive statistics for the returns to tail hedging when the stock price has either a normal or fat tailed distribution. I find that tail hedging is rewarding when stock prices have fat tails.

• Item Type: MPRA Paper
• Language: English
• Keywords: Portfolio management, tail option, fat tail, simulation.
• Subjects: B - History of Economic Thought, Methodology, and Heterodox Approaches > B5 - Current Heterodox Approaches > B50 - General; C - Mathematical and Quantitative Methods > C6 - Mathematical Methods ; Programming Models ; Mathematical and Simulation Modeling > C63 - Computational Techniques ; Simulation Modeling; G - Financial Economics > G1 - General Financial Markets > G11 - Portfolio Choice ; Investment Decisions; G - Financial Economics > G3 - Corporate Finance and Governance > G32 - Financing Policy ; Financial Risk and Risk Management ; Capital and Ownership Structure ; Value of Firms ; Goodwill

References

Spitznagel, M., Yarckin, B., Mann, C. (2015, January). Capital asset pricing mistakes. Retrieved from http://www.universa.net/Universa_SpitznagelResearch_201501.pdf.