Option Hedging Strategy Based On Implied Volatility

SSE 50 ETF options were launched on February 2nd,2015.As the first stock option in China,SSE 50 ETF options provide new hedging tools for China’s financial market.By using the real data of the SSE 50 ETF options from the beginning of the market to March 17,2017,this article did research into the application of implied volatility to option hedging.The total length of the research range covers 512 trading days,and 868 option contracts are included.This article provides two strategies on the choices of the types of the contract and the expiration month of the contract respectively.Based on the information reflected by the implied volatility,the first strategy studies the tradeoff between the protective function of put and the profit increase function of call through quantitative methods.Based on the assumption of the distribution of underlying asset,the probability on the superiority of call to put can be calculated by using implied volatility as the prediction of the future volatility.In the hedging strategy,call options are used when the probability exceeds the threshold,and put are used otherwise.The results indicate that the profit is not good when thresholds are too low or too high.The ability to prevent the portfolio from big loss is also weak when thresholds are too low.It is found that for short-term hedging within one month,the strategy with the threshold of 0.58 is more profitable than the strategy in which only put options are used,and the risk can be controlled as well.In addition,the more volatile the market environment is,the bigger the threshold is.For long-term hedging lasting for 2 to 6 months,the strategy with the threshold of 0.58 is comparatively more profitable,enjoys lower maximum loss and exposes less to slight drawdown.The convergence of the implied volatility of different expiration months is used in the second strategy.In this strategy,the difference between two volatility indexes of different expiration months is calculated and compared with a threshold chosen to estimate the overestimate and underestimate of the contracts so as to choose the expire month.It is found that,its ability to prevent big loss does not varies obviously with the variation of the threshold,but the profitability and the ability to prevent slight drawdown is good when the threshold hits 0 or being close to 0.Compared with the strategy with the contract of a single month,the cross-month strategy under such threshold is more profitable under the precondition that the risk is not increased much.It should be noted that this strategy can be applied to ATM but not to OTM to some extent.The validity of these two strategies shows that hedging strategies are optimized when the information of implied volatility is included.In the future,the hedging strategies based on implied volatility will play an even more important role as our financial market matures.