Viewpoints

Volatility as an Opportunity Class

Opportunities created by volatility are likely to rise in coming years.

Is volatility an asset class? It’s a question we often debate, internally and with clients. There’s no simple answer. Either way, though, it’s an academic point that matters less than our belief that volatility is an “opportunity class” – one with a variety of tactical and macro implications. Moreover, as financial luminaries from European Central Bank President Mario Draghi to Federal Reserve Vice Chairman Stanley Fischer have warned, volatility is likely to rise as the Federal Reserve approaches its first rate hike in almost a decade. Likewise, the opportunities created by volatility are likely to rise in the coming years.

One of the biggest differences between investing in volatility versus traditional “one delta” assets such as stocks or bonds is that volatility investing is about more than simply reaching a final destination for price or income. Profit or loss cannot be determined simply by looking at a traditional chart. If a stock climbs from $100 to $110 over a year, its return is 10%. But if volatility increases from 10% to 11% over a year, the return may or may not be 10%.

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Rick Chan

Portfolio Manager, Global Macro Hedge Fund Strategies

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The term "insurance" within this material refers to derivatives, which are not an insurance contract. Derivative instruments can be thought of as “insurance” when an investor behaves like an insurance company. For example an investor could take a derivative position to hedge a portfolio against a future event or collect a premium when they believe an event is statistically not likely to payoff.

All investments contain risk and may lose value. Tail risk hedging may involve entering into financial derivatives that are expected to increase in value during the occurrence of tail events. Investing in a tail event instrument could lose all or a portion of its value even in a period of severe market stress. A tail event is unpredictable; therefore, investments in instruments tied to the occurrence of a tail event are speculative. Derivatives may involve certain costs and risks, such as liquidity, interest rate, market, credit, management and the risk that a position could not be closed when most advantageous. Investing in derivatives could lose more than the amount invested. There is no guarantee that these investment strategies will work under all market conditions or are suitable for all investors and each investor should evaluate their ability to invest long-term, especially during periods of downturn in the market. Investors should consult their investment professional prior to making an investment decision.

This material contains the opinions of the author but not necessarily those of PIMCO and such opinions are subject to change without notice. This material has been distributed for informational purposes only and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Information contained herein has been obtained from sources believed to be reliable, but not guaranteed. No part of this material may be reproduced in any form, or referred to in any other publication, without express written permission. PIMCO and YOUR GLOBAL INVESTMENT AUTHORITY are trademarks or registered trademarks of Allianz Asset Management of America L.P. and Pacific Investment Management Company LLC, respectively, in the United States and throughout the world. ©2015, PIMCO.

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