What is the difference between a variance swap and a volatility swap?

A volatility swap is essentially a forward contract on future realized price volatility. A variance swap is analogously a forward contract on future realized price variance, which is the square of future realized volatility.

What is the difference between variance and volatility?

Variance is a measure of distribution of returns and is not neccesarily bound by any time period. Volatility is a measure of the standard deviation (square root of the variance) over a certain time interval. In finance, variance and volatility both gives you a sense of an asset’s risk.

What is trade variance?

The variance swap, in mathematical terms, is the arithmetic average of the squared differences from the mean value. Directional traders use these swaps to speculate on the future level of volatility for an asset. Spread traders merely bet on the difference between realized volatility and implied volatility.

Does variance swap have Delta?

The delta of a variance swap is its price sensitivity to the movement of the underlying asset: ≡ ∂ V ∂ So . The purpose of this short article is to derive an analytic formula for a variance swap delta. It shows that the delta is determined by the volatility skew and the vega of vanilla options only.

How do volatility stocks work?

Extending Volatility to Market Level In the world of investments, volatility is an indicator of how big (or small) moves are made by a stock price, a sector-specific index, or a market-level index, and volatility represents how much risk is associated with the particular security, sector, or market.

How is volatility swap calculated?

Payoff for a Volatility Swap This is done by multiplying the notional value of the contract by the difference between the actual and the predetermined volatility. This predetermined level of volatility is a fixed number that is a reflection of the market’s expectation at the time of inception of the forward contract.

How do you hedge a variance swap?

The variance swap may be hedged and hence priced using a portfolio of European call and put options with weights inversely proportional to the square of strike. Any volatility smile model which prices vanilla options can therefore be used to price the variance swap.

What are Volatility swaps?

What is a ‘Volatility Swap’. A volatility swap is a forward contract with a payoff based on the realized volatility of the underlying asset. They settle in cash based on the difference between the realized volatility and the volatility strike. They are not swaps in the traditional sense, with an exchange of cash flows between counterparties.

What is realized volatility swap?

In finance, a volatility swap is a forward contract on the future realised volatility of a given underlying asset. Volatility swaps allow investors to trade the volatility of an asset directly, much as they would trade a price index. Its payoff at expiration is equal to is a preagreed notional amount.

What is correlation swap?

A correlation swap is an over-the-counter financial derivative that allows one to speculate on or hedge risks associated with the observed average correlation, of a collection of underlying products, where each product has periodically observable prices, as with a commodity, exchange rate, interest rate, or stock index.