Vol Target Options

gver

Member
lets say I have an asset X(t), which is a vol targeted version of the SX5E Index. While I have a vol surface for pricing options for the Eurostoxx,

a. how will the vol surface for X(t) look like ? Will it be a flat surface, given know that irrespective tenor and moneyness my vol will be same as the targeted level ?
b. what happens to the vega in such a case; given its a flat surface, do I end up having no sensitivity to the option price wrt
c. Intuitively, how does the pricing of such options vary from the vanilla options on standard indices
d. how do traders hedge and managed their books with such instruments
 

diegosanaz

BU MSMF
Intuitively the surface cannot be flat since vol targeted assets still have varying volatility. Think of it this way, vol targeted funds try to do an asset allocation such that the current (or forecastable) volatility of the fund will meet the target. However, the index could have a volatility shock, then the fund may react, but will be ex post,.
 

gver

Member
Yes, I agree .. rolling vol is like a sinusodial wave moving around the target level ..
So how do I deal with the above questions
 
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