Strategies · Library · Structured assets
§11.2Carry
Carry, equity tranche – index hedging
Buy the riskiest slice of a credit-loss pool and sell the matching credit index to cancel most of the market exposure. The tranche pays more premium than the index costs, so the difference is carry. The risk left over is losses concentrated in the riskiest slice.
- Asset class
- Structured assets
- Held for
- To expiry
- Data
- Needs data ARCANE lacks
- Symphony
- Cannot be built as a symphony
The rule
- Signal
- Premium earned on the low-quality tranche versus the index, and the sensitivity ratio of tranche value to index value.
- Entry and exit
- Open the long tranche and short index together; adjust the hedge ratio as spreads move; hold until the contract ends or unwinds.
- Sizing
- Index short sized by the ratio of the tranche's sensitivity to spread to the index's.
How it fails
- Credit events in the equity slice
- Hedge ratio depends on a model
- Correlated defaults
Data it needs
- tranche spreads
- index CDS spreads
- default probability model
ARCANE has no tranche, CDS or index-spread data.
How ARCANE uses it
Not usable directly. A Call about credit stress could note that this carry trade loses when defaults cluster.
Needs tranche pricing, shorting and credit derivatives; none are in the block set.
Filed under the carry card
Own what pays more than it costs to finance (the return if prices stand still) and sell what pays less, across currencies, bonds, commodities and stock indexes.
A paper plan from this card holds 21 to 252 days, stops at 2× the expected move and uses at most 75% of your risk budget. The card
Source: Kakushadze and Serur (2018), 151 Trading Strategies, §11.2, p. 100 of the SSRN version. Described in our words. Carry is ARCANE’s filing, not the book’s.