Nomura Holdings, Inc. · TSE:8604
Nomura — Investor Presentation (May 2015)
30 slides from Nomura's investor presentation, May 2015
Slide 1: Vol Risk Premia in Equities: Selling Vol or Earning a Risk Premium?
Connecting Markets East & West Vol Risk Premia in Equities “Selling Vol” or Earning a Risk Premium? Dr Nick Firoozye Derivative Research +44-207-102-1660 Nick.Firoozye@nomura.com See Disclosure Appendix A1 for analyst certifications and important disclaimers. May 2015 © Nomura International plc
Slide 2: Table of Contents
Table of Contents Everyone is short vol Smart money sells vol Vol as insurance: when should you sell vol and which vol should you sell? Vol risk premia are pervasive Closing thoughts 1
Slide 3: Everyone is short vol
Everyone is short vol But not everyone is getting paid for it!
Slide 4: Almost all asset classes are short vol
You’re short even if you don’t know it! Almost all asset classes are short vol Credit is short vol Equities are also short vol In low rates, govies are short vol MBS is short vol General Rule : if you’re making a return, you probably sold someone some sort of option 3
Slide 5: Investors are already selling volatility via credit
Investors are already selling volatility via credit In theory long credit is short a put on the assets of a firm (Merton 1974) The “Merton model” of credit risk The empirical evidence supports the theory in the US 125 US HY Credit US Equity Volatility Risk Premium 120 Cumulative excess returns 115 1
Slide 6: Empirically, equities are short vol
Empirically, equities are short vol Going short volatility has a very similar performance to going long equities. Short VIX vs Long S&P 500 108 S&P 500 Short VIX 106 104 102 100 98 96 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 Same Risk, Different Premia Source: Blo
Slide 7: In low rates environments, govies are short vol
In low rates environments, govies are short vol USD front-ends showed a strong comovement in low rates Comovement is even stronger in low yield market like Japan 7 300 2 160 6 250 1.6 Basis Point Volatility Basis Point Volatility 5 120 Sw ap rate (%) Sw ap rate (%) 200 4 1.2 150 80 3 0.8 100 2 40 50
Slide 8: Mortgages (MBS) – also short volatility
Mortgages (MBS) – also short volatility Duration is the main component in MBS returns Optionality drives the outperformance of MBS 15% Unexplained 3y10y MBS Returns Decom position 1m10y Credit 5% Duration Rolling 1y MBS returns 10% Average returns (p.a.) 4% Unexplained (annualized) 5% 3% Vega Gamma
Slide 9: Smart money sells vol!
Smart money sells vol!
Slide 10: Wait a second! Didn't Buffett call derivatives weapons of mass destruction?
Wait a second! Didn’t Buffett call Derivatives “Financial Weapons of Mass Destruction”? Didn’t Lehman fall because they were short vol? Source: Wikimedia (http://commons.wikimedia.org/wiki/File:Warren_Buffett_KU_Visit.jpg) and WikiMedia (http://commons.wikimedia.org/wiki/File:Lehman_Brothers.svg) 9
Slide 11: The insider's story
The insider’s story Buffett Sold Vol $4.2bn Lehman Bought Vol OTM puts “worst of” (SPX, NKY,SX5E) basket Source: see Matt Levine, Lehman Brothers Maybe Sold Warren Buffett a Rainbow, Bloomberg View, 6 Feb 2014 and quoted sources. 10
Slide 12: Why did Buffett sell vol?
Why did Buffett sell vol? Derivatives = Insurance! “ Our insurance-like derivatives contracts*, … are coming to a close…….almost certain to realize a final ‘underwriting profit’ - Warren Buffett * Equities puts, CDO Tranches, CDS, etc ” Source: Nomura Research 11
Slide 13: Vol as Insurance
Vol as Insurance When should you sell it and which vol should you sell?
Slide 14: Selling vol usually makes money
Selling vol usually makes money USD 1m10y • Historically, implied volatility 300 Basis Point Volatility tends to exceed realized volatility 1m implied volatility over the long term. 250 1m actual realised volatility 200 • In more than 70% of cases, implied volatility was greater than 150 realized vo
Slide 15: When should you sell vol?
When should you sell vol? Simple indicators improve the short gamma performance consistently 1.6 1.4 1.2 Sharpe ratio 1.0 S&P 500 0.8 EuroStoxx 0.6 Nikkei 0.4 Global 0.2 0.0 Short only Short using Indicator A Short using Indicator B Short using Indicator C Global Equity Volatility Risk Premia 105 Cu
Slide 16: Styles make everything better!
Styles make everything better! Styles without timing improves diversified portfolio in rates 165 Global iVRP Select Index 2 Aggregate Select 155 Global iVRP Aggregate Index Cumulative excess returns 145 1.5 Sharpe ratio 135 125 1 115 105 0.5 95 85 0 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 USD i
Slide 17: Which vol should you sell?
Which vol should you sell? S&P 500 OTM call outperformed USD 1m10y ATM straddle swaption outperformed 1.00 30% 1.5 91 90 1 25% 89 0.80 0.5 88 20% Implied Vol (bps) 87 Implied Volatility Sharpe Ratios Sharpe Ratio 0.60 0 86 15% Short Calls Sharpe Ratio (LHS) 85 -0.5 0.40 84 Short Puts Sharpe Ratio (L
Slide 18: Do NOT sell vol when vol is high!
Do NOT sell vol when vol is high! Performance of Equities VRP Performance of USD 1m10y Swaption (Rates) VRP 3.0 1.4 2.5 1.2 Shapre ratio 2.0 1.0 Sharpe ratio 1.5 0.8 1.0 0.6 0.5 0.4 0.0 0.2 -0.5 0.0 Low-vol Bucket Mid-vol Bucket High-vol Bucket Low-vol Bucket Mid-vol Bucket High-vol Bucket Performan
Slide 19: Vol Risk Premia are Pervasive
Vol Risk Premia are Pervasive Diversification and outperformance
Slide 20: Vol risk premia exist across equity markets
Vol risk premia exist across equity markets In Europe as well, VRP outperformed significantly EuroStoxx 50 120 Vol Risk Premia Long Only 115 110 105 100 95 Mar-01 Mar-03 Mar-05 Mar-07 Mar-09 Mar-11 Mar-13 Source: Nomura Research, Bloomberg. For comparison purpose, the volatility of returns are resca
Slide 21: Vol risk premia exist across equity markets
Vol risk premia exist across equity markets Short gamma strategies outperformed across equity markets (vol scaled and centered indices) S&P 500 EuroStoxx 50 Nikkei 225 Kospi 200 120 120 112 Vol Risk Premia Vol Risk Premia 110 Vol Risk Premia Vol Risk Premia Long Only 110 Long Only Long Only Long Onl
Slide 22: Equity vol premia truly diversify
Equity vol premia truly diversify Equity vol risk premia outperformed traditional equity factors 115 120 Equity Vol Risk Premia (eVRP) Equity Vol Risk Premia (eVRP) 113 Growth Barra Low Vol Cumulative excess returns 115 Cumulative excess returns 111 S&P 500 Value Quality 109 110 Momentum 107 105 105
Slide 23: Vol risk premia exist across asset classes
Vol risk premia exist across asset classes Short gamma strategies outperformed across asset classes and are decorrelated 300 eVRP S&P 500 Cumulative excess returns (log- 270 iVRP (USD) US 10Y Treasury Cumulative excess returns 400 240 scaled) 210 180 150 120 40 90 01 02 03 04 05 06 07 08 09 10 11 12
Slide 24: Performance of cross-asset VRP
Performance of cross-asset VRP Cross-Asset VRP using Style-based investing gives superior performance 500 450 Cross-asset VRP Aggregate Cross-asset VRP Select Since Since 5Y 1Y 5Y 1Y Feb-2001 Feb-2001 400 Annualized Return 7.3% 9.3% 5.4% 10.8% 11.8% 8.0% Volatility 6.9% 7.0% 3.6% 6.9% 7.7% 4.0% Shar
Slide 25: Closing thoughts
Closing thoughts
Slide 26: Conclusions
Conclusions Volatility = Insurance Everybody is short – not everybody is getting paid for it. Not a question of whether to sell vol, but when to sell it Some vols are better than others Vol Risk Premia are pervasive Vol is an asset class you should not ignore 25
Slide 27: Appendix: Vol Risk Premia – Selling Gamma
Appendix: Vol Risk Premia – Selling Gamma Selling vol—short gamma strategies,. We can sell options, and delta hedge, mark-to-market regularly This is called “shorting Gamma” or obtaining the Volatility Risk Premia Effectively, we sell insurance to the market – tail-risk insurance. In general,
Slide 28: Appendix A-1: Analyst Certification
Appendix A-1 Analyst Certification I, Nick Firoozye, hereby certify (1) that the views expressed in this Research report accurately reflect my personal views about any or all of the subject securities or issuers referred to in this Research report, (2) no part of my compensation was, is or will be d
Slide 29: Registration No: BSE INB011299030, NSE INB231299034, INF231299034, INE 231299034, MCX: INE261299034) and NIplc, Madrid
Ceejay House, Level 11, Plot F, Shivsagar Estate, Dr. Annie Besant Road, Worli, Mumbai - 400 018, India; Tel: +91 22 4037 4037, Fax: +91 22 4037 4111; CIN No : U74140MH2007PTC169116, SEBI Registration No: BSE INB011299030, NSE INB231299034, INF231299034, INE 231299034, MCX: INE261299034) and NIplc,
Slide 30: This document has not been approved for distribution to persons other than ‘Authorised Persons’,
unless they have been registered under the 1933 Act, or except in compliance with an exemption from the registration requirements of the 1933 Act. Unless governing law permits otherwise, any transaction should be executed via a Nomura entity in your home jurisdiction. This document has been approved