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Coming of Retail Exotics

September 17, 2009

An increasing number of quantivity trading strategies are incorporating exotics, either synthetically or via direct instruments. Alpha is easier to tickle out on exotics due to less transparency to the retail masses. Further, exotics tend to confound many classic trading strategies.

History of retail exotics is a comparatively short one, with two recent hits. CBOE VIX was a massive well-known success, introducing vol trading and volarb to retail (props to VixAndMore for pioneering the blogosphere on this topic). VIX was quickly followed by VIX futures, VIX options, VXX, VXN, VXZ, and their friends across the indices and vol surface. More recently, leveraged ETFs and their derivatives have been a similar success story (as discussed previously here in Leveraged ETFs and Market Close).

Following in the footsteps of the OTC bread and butter, implied correlation and binary exotics now exist. Gotta love any retail derivative for which the prospectus is covered in formula (as VIX was, for those readers who remember back to its original launch). Undoubtedly, more retail exotics will continue to blossom as traders become familiar with them.

For those mathematically-inclined, exotics offer a natural frontier for exploiting superior modeling and estimation techniques. In comparison to volatility derivatives (for which there is a massive academic and trading literature), these more recent exotics have a comparative dearth of coverage. As such, the alpha opportunity should be commensurately higher.

As reader interest and collaboration dictates, subsequent posts may delve into both quantitative and algorithmic trading aspects of exotics—now that they are gaining increasing retail liquidity.

2 Comments leave one →
  1. September 21, 2009 8:13 pm


    Could you please share in more detail some of the trading strategies that use exotics? Perhaps some of those that have lost their alpha over time and so you could share without divulging any actionable secrets?


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