Trading based on volatility, often referred to as volatility trading, involves strategies that capitalize on price swings in the market. Traders who specialize in volatility trading typically use options, futures, or other derivatives to either profit from or hedge against the wide price movements. Popular strategies include straddles and strangles, which involve taking positions that benefit from large movements in the underlying asset, regardless of the direction.
Some traders focus on implied volatility, betting on the predicted future volatility compared to the historical volatility or market expectations. Others might use volatility indices or trade products like the VIX to directly express views on overall market volatility.
In application, a trader might buy options with a long time until expiration when expected volatility is low, betting that volatility will increase. Conversely, when volatility seems excessively high, a trader might implement strategies to profit from a return to normal volatility levels.
Traders employing these strategies usually have a strong understanding of risk management and make use of tools like the Greeks to understand sensitivity to underlying price changes, volatility shifts, and time decay. Successful volatility trading requires vigilance and adaptability to swiftly changing market conditions.
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