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A. Yang: Volatility-Managed Volatility Trading

February 28, 2025

We develop volatility risk premium timing strategies that trade two assets: a volatility asset and a risk-free asset. We first analyze a benchmark portfolio that sells a constant weight of volatility assets each month. Then, we show that a volatility-managed portfolio, which reduces selling volatility assets during periods of heightened volatility, considerably enhances long-run performance. Our findings are robust across variance swaps, VIX futures, and S&P 500 straddles, and even in the presence of transaction costs. An ex-post study indicates that timing portfolios yield positive alpha and reduce exposure relative to constant-weight portfolios, mostly during large-volatility-spike periods rather than stable periods. Our findings help differentiate asset pricing theories on risk-return relations in the volatility asset market.

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