Portfolio Insurance

A strategy called portfolio insurance, which nowadays we would call a form of dynamic hedging, is widely blamed for the 1987 crash. This strategy, in effect, creates a ‘stop-loss order’ that gets larger in size and closer to the current market price as volatility gets lower.

The combination of shorting volatility, option hedging and risk-parity strategies sets up a very similar situation. Make hay while the sun shines, but thunderstorms are likely.

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