Variance Swap Portfolio Theory
13 Pages Posted: 28 Jan 2010 Last revised: 3 May 2010
Date Written: November 8, 2009
Optimal portfolios of variance swaps are constructed taking account of both autocorrelation and cross asset dependencies. Market prices of variance swaps are extracted from option surface calibrations. The methods developed permit simulation of cash flows to arbitrary portfolios of variance swaps. The optimal design maximizes the index of acceptability introduced in Cherny and Madan (2009). Full nonlinear optimization is contrasted with Simultaneous Perturbation Stochastic Approximation (SPSA). Preliminary out of sample results favor the use of SPSA.
Keywords: SPSA, Concave Distortion, Correlated Levy Processes
JEL Classification: G1, G12, G13
Suggested Citation: Suggested Citation