The Derivative - Volatility Vultures: Hunting for Options Talent with Gary Selz of Zero Delta

Episode Date: June 27, 2024

In this episode of the Derivative we chat with Gary Selz, co-founder of Zero Delta Funds. Gary shares his background growing up in Chicago and studying electrical engineering at Northwestern University. He discovered options trading through a financial engineering course and was introduced to a Chicago prop trading firm. Gary discusses his experience training as a new trader at the prop firm. He explains how traders are given time and support to learn before getting their own book to trade. Gary reflects on the diverse career paths that can lead traders to prop shops, from poker players to accountants. The conversation covers Gary's transition from trading to investing his own money in volatility strategies. This led him to co-found Zero Delta Funds and launch a fund seeking talented volatility traders from across the globe and not always where you’d expect. Gary highlights their process of finding under-the-radar traders internationally and evaluating their sophistication. Gary and Jeff discuss various aspects of options trading, including the evolution of the market landscape. They analyze single stock versus index volatility trading. Gary shares insights on the current opportunity set and speculates on potential future market catalysts. Come join us as we dig deeper into option and vol trading and into the mindset of successful volatility traders. Chapters: 00:00-01:34=Intro 01:35-15:45=Electrical engineering to prop trading, nature vs nurture & trading floor antics 15:46-25:08= Balancing talent with technology in prop firms – traders finding their edge 25:09-31:42= Launching Zero Delta, investing in volatility with no strategy drift 31:43-45:19= Option vs Vol traders, Getting an edge, seeking out specialty traders 45:20-57:01= Single name vol, what’s Zero delta? And positioning your portfolio for the unknown Follow along with Gary on Twitter @SelzGary, check him out on LinkedIn and make sure to visit zerodeltafunds.com for more information. Don't forget to subscribe to ⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠The Derivative⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠, follow us on Twitter at ⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠@rcmAlts⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠ and our host Jeff at ⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠@AttainCap2⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠, or ⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠LinkedIn⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠ , and ⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠Facebook⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠, and ⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠sign-up for our blog digest⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠. Disclaimer: This podcast is provided for informational purposes only and should not be relied upon as legal, business, or tax advice. All opinions expressed by podcast participants are solely their own opinions and do not necessarily reflect the opinions of RCM Alternatives, their affiliates, or companies featured. Due to industry regulations, participants on this podcast are instructed not to make specific trade recommendations, nor reference past or potential profits. And listeners are reminded that managed futures, commodity trading, and other alternative investments are complex and carry a risk of substantial losses. As such, they are not suitable for all investors. For more information, visit ⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠⁠www.rcmalternatives.com/disclaimer⁠

Welcome to The Derivative by RCM Alternatives, where we dive into what makes alternative investments go, analyze the strategies of unique hedge fund managers, and chat with interesting guests from across the investment world. Hello there. I hope your summer's going well and you're enduring the heat wave across the US. We're back this week talking volatility and options with Gary Seltz, co-founder of a unique fund of funds focused on getting option trading talent out of nooks and crannies across the prop trading world. We talk about what Gary looks for in a manager, hear stories about the prop trading

and option scene in Chicago, and of course, ask the question, are they always managing the book to zero deltas? Send it. This episode is brought to you by RCM's YouTube channel, where we post this podcast, but also have some other videos in and around our work in the vol space. So head on over to YouTube, search RCM derivative podcast and hit the playlist button.

And you can see all our vol pods over the years in the VIX and volatility playlist. And now, back to the show. All right, we're here with Gary. Gary, how are you? Good, good. It's great to be here. I know, and as has happened a few times on this, you're here in Chicago, but we're still doing this on Zoom. Yeah, yeah. I traveled to Chicago and met you in person for the first time, and now I'm in my hotel room doing this podcast.

We'll figure that out one day. It's hard with all the different angles and cameras and sound. But you used to live in Chicago for a bit, right? Yeah, I grew up in Chicago. I was here my whole life until COVID hit in 2020. And that year I moved down to Miami and I've been down there since. Nice. Any regrets? Not really. I do miss the city. I miss a lot of my friends. The trader community here in Chicago is great.

So it's always great to get back here, especially in the summer. And everyone says Miami is becoming a hedge fund town. But are you seeing that? Or is it more like East Coast stock hedge fund type of people? It's a little bit of both. Citadel has a big presence down in Miami. I've met a number of people from Citadel, from Ballyasney, people trading options. So I was pretty surprised.

And that's been increasing over the past year. I think it's Citadel Securities business that's down there. I don't think they're a hedge fund. But yeah, it's Citadel Securities business that's down there. Yeah. So not, I don't think they're hedge fund, but yeah, it's increasing. A lot of RIAs are moving down there, Palm Beach up that way. So all along the East Coast of Florida, up from Palm Beach down to Miami, I'd say it's transforming, but it's slowing. I would say the great migration, most of it has happened, but there are still people trickling in. Yeah.

And where were you in Chicago? You grew up in the suburbs, downtown? I grew up in Skokie. So I went to high school there. Then I went to college at Northwestern in Evanston and then I got a job in the city, had a prop firm. Right. Want to dig into that prop firm a little bit yeah so um right out of school how they found you or you found them no it was interesting so i was studying electrical engineering at northwestern

and that let me tell you that was tough um dodged a bullet yeah I dodged a bullet. But in my studies, they had a financial engineering course in the engineering department. So I signed up for that. All the reviews said it was extremely difficult. And when I took the course, it was difficult. It was all about option pricing, swap pricing, with all the calculus, you know, the Brownian motion, the physics, everything involved. And in that class, it was taught by a professor named Vadim Lenevsky. I go up to him after class, maybe it was an exam one day. And I said, you know, this is interesting, but can you make money with it? And he said, Oh yeah. Yeah. He said, Oh yeah, you can make money with it. Um, let me introduce you to a firm. And he, uh, sent me an

email about a firm in Chicago called peak six and they were having an open house and I thought I'd just go check it out. I didn't know anything about trading and I went there and I saw what they did and I was blown away i wanted that job badly first of all right when you walk into the office you're blown away for anyone yeah anyone who's listening go google peak six office and look at that trading floor it's the old where the first board of trade trading pit was the old uh com ed wasn't or whatever that name of that pit was um right there let's sit looking down lasalle street pretty cool yeah it was great and and the people were great too on top of it um and you know we have some mutual friends that are there um some great

people great people i interviewed with i shadowed a trader for a little bit on the desk. That was my first foray into options trading, real options trading. Really? And you were just total newbie said, knock on the door. Yeah. And since then, you know, the rest is history. I've been in the business ever since then. I think talk a little bit about that. I think the perception would be at a firm like that, you need to come right in and have the experience and be able to get a P&L going right away. And if not, they'll cut bait, right? Were you given capital to trade right away? Oh, no, they have a, you know, in firms like that, a lot of them, you know, the Susquehannas of the world, Optiverse, IMCs, they all have training programs where people come in that are hungry, that are smart, and they train them. So they train them

on options theory. They might do some mock trading. They shadow traders. You're possibly part of a team learning what they do. And then also, as you learn over six months or a year, you're providing trading ideas and getting feedback back and forth the whole time. When I started there, I was part of a group trading leap options. And it was a great group and learned so much about that, why it's different from trading other types of options listed options in single stocks um but you're definitely not given a book right away you have to learn and then eventually you could graduate you know you're part of a trader assistant class you graduate and maybe you're given a small book and they see how you do um You're kind of on your own. And that's really the most exciting part. You really feel like at that point you have your own portfolio.

You're almost building your own business inside of business in a way and managing your own risk, putting on trades yourself. Nobody's approving. Nobody's disapproving. It's kind of a sink or swim. Yeah. So it was a great feeling and you don't need to make money right away uh just you know there's different times in the market there's different opportunities so it might not be a great opportunity set for you so it just depends like how are you trading how are you navigating that how are you protecting capital how are you trading? How are you navigating that? How are you protecting capital? How are you managing risk?

So there's all of that involved. It's not just... That seems like a quick way out of the program, right? If you're like, oh, that's not a good opportunity set, I'm going to force it. Or I'm going to go to these things I don't know how to do. Yeah. So you got an electrical engineering degree? Yeah, I got an electrical engineering degree. It was a focus on wireless communications, actually.

So a lot of math, but that did help me when I was working. All of that math, all those statistics, all the probabilities, thinking like that, because options pricings are based on probabilities. It's based on Brownian motion. If anybody knows anything about Brownian motion, it's where you drop, it was a physicist, you drop a oil, drop of oil into water and see how it moves.

And you can model that. And that's kind of how stocks are modeled you know how do they move how volatile are they how the dispersion of it um so i used that in the option pricing when i was at the firm and what other either that firm or in your experience with other option traders right there's not a lot of people that just go to school specifically to learn financial engineering and become option traders right it's like this guy was a former poker player and this guy was an electrical engineer and like talk a little bit about that of like some of the wide career paths that got them into prop shops like that i mean i know people who had philosophy majors yeah that that started guilty yeah there you go that have become great traders uh you know people who studied accounting um

but all those diverse views kind of helps build a firm um in the way people think the poker players thought in a different way and and actually they're very accurate on how they place their bets, the sizing of the bets and the risk management. Are they getting, you know, pot odds, for example, um,

and how much to bet on that versus, you know, the risk versus the rule, the reward. Um, and they're great and they're great. Um, I think it was in the 20 teens when poker was banned in the United States.

So I think there was an influx of professional poker players into trading. Yeah, it was like the Black Monday of poker. I think they made that ruling and they called it their own Black Monday. Exactly. I don't know if it was a Monday, but it was one of those. And some of those people, they went to firms like Chicago prop trading firms, firms in New York. And I know a few, they've become great traders and they had no background in trading, no background in options, but they learned and they were hungry and they succeeded uh some of them became more algorithmic um more automated but some are still very discretionary um and very profitable so all

these diverse view sets i think help build affirmed that way you don't get everybody looking at something the exact same way yeah but that's confusing to outside looking in also like are you being taught a way to do things and hey here's how we make money hit this red button when this clock hits 12 and do this or they're like hey you know how to think here's the playground and and see what you can do inside of the playground here it's definitely the latter and i tell people it's there's a science to it you know there's the math behind it but then when you're actually trading it it's it's an art form and anybody could learn how to paint but there are some you know master artists out there and i think it's the same thing with trading you know and especially

discretionary options trading there are some people that are just fantastic they're artists they're talented it's like i i think about basketball a lot when i think about this you know what did michael jordan have that some of the other basketball players didn't have and it's hard to to point to something exactly. Was it grit? Well, a lot of people have grit. A lot of people have the desire to win. Why was he better? He just was.

It's the same thing with a lot of traders. Some traders just have it. They're master artists. They master their craft. Nature versus nurture. You have to have it naturally and then we can also bring it along with some nurturing but right yeah right and i still to this day i still don't know what it is i can't point to something that says this is why this

person is better than another person i can't point to it. And as a trader, I knew some traders were better than me. There was a lot of traders better than me, but I couldn't really figure out why. Maybe they had a better risk tolerance for holding their winners. Maybe they cut their losers short earlier. I don't know what it was. Um, but there are traders that are just better than others. And then one of my favorite stories is the, um, it was like a market making day where you're making markets on like, can Gary throw this ping pong ball 50 feet to the wall on the other side.

Right. And all the traders and interns and everyone would be trying to make a market on that. So kind of teach you how to think in probabilities. Oh, yeah. Any of those stories you can share? Oh, yeah. We had a game. I don't know who introduced it.

I think it was my buddy Clayton, who I traded with, called the Almanac Games. He would just flip through the almanac and say, all right, make a market on how many miles to the moon. And traders would start trading it. Sometimes we get creative. They start trading the options on it. They would start trading this, and it would be like a trading pit. And we would do this probably a couple times a week and

it was a lot of fun um we would also you know trade on there was a basketball hoop uh now i think it's about 350 000 i'll make my market at 300 000 miles you know but we can let's google it yeah there's the other um how many times you have to fold a piece of paper to reach the moon which i think is like the answer is like 64 or something like you couldn't physically do it actually but right because and that teaches you like non-linearity right it's doubling right double doubles in the doubles. You get halfway there and that last fold is the one that gets you all the way to the moon. Right. So the answer, miles to the moon, 238,000. So you're pretty close.

All right. Yeah, but there would be two-way markets and people would be buying and selling and tightening it up. And it taught you a lot about trading. So that wasn't an official thing. This is just you guys bored on a Tuesday and the market's not doing much and like, okay, let's figure out what we're doing. Yeah.

And I think maybe firms started doing it as part of a formal training. Yeah. But it was just fun for us. And so talk a little bit, you have all these diverse people they're becoming great traders and this will feed into what you guys are doing at zero delta but how do they some will naturally be like i'm so good i want to leave and go hang my own shingle do my own thing versus some are drinking the kool-aid or whatever whatever it is, or they get compensated very well. They're like, Hey, stay here and making the firm money. Like how does that balance work out? Yeah. I think it's not so much that traders think they're so good that they could leave.

I think it's more of a mindset that they want to build something on their own. And I think there's just two camps. There's people who want to do that. And then there's people who just don't. And some of the best traders that I've seen just stay at the prop firm, whatever prop firm it is, forever. And they like it. You know, it's just a mindset. Some other people just have a mindset. I want to build something on my own. Maybe they have a mindset. Some other people just have a mindset,

I want to build something on my own. Maybe they have a mindset, they want to build something big, they want to be the next big prop shop, big market making firm. They spin out of Optiver, they create Acuna, they have visions of something large. Some other people just want to spin out, have a small two to five person firm and make money for themselves and family and friends um i i think it's just a mindset um so in some cases they might be like hey i know i'm going to make less money yeah but i want to be my own boss i want to have my name on the door or whatever absolutely absolutely and there's some people that um are more reliant on technology at a lot of these prop firms.

And there's some people that aren't. So they feel more beholden that they have to stay. Right. Or it would cost them $2 million a year to have the technology in place or something like that. Yeah. Or they need to build it out. It'd be a large build out. It won't be as good. It's actually pretty surprising the technology at these firms is state-of-the-art it's it's really good um at all these firms whether it's wolverine susquehanna peak six jump trading whatever it is it there is all really good and you don't really know how good it is until you know you're in there and you're like wow um it's much better than the big banks and that you think that gives an edge

just in terms of speed or in terms of pricing all the above all of the above it's an edge it's a big edge but it's not the what we were talking about back in the day of high-frequency trading and satellite dish relays for quotes and all that stuff. Some firms still have that. And the co-location, the cost of all of that is enormous. The cost of some of these firms are hundreds of millions of dollars a year for all the servers, all the connections, all the microwave frequencies, whatever it is. Yeah, microwave towers, not satellite towers, but maybe they were doing satellites too.

The satellites were slower or something with weather, but even the microwave towers, you had to measure wind speeds because the towers would shake. Wow. Why is my quote off a millisecond? But generally, peak six, and, right, I know some about that.

They're not doing high-frequency trading. They're not really doing market-making, some shades of it. I don't know. I haven't been there in eight years. Maybe they are now. But they're quite a sophisticated firm that could adapt to any market. There's very smart people there. Yeah.

And then it also, and then we'll get, I think there's smart people at all these places. How come they don't just cannibalize each other, right? Isn't it zero sum and they're like, all the Susquehanna traders are battling against the Peak Six traders and battling against James Straderman, right? It seems like it's zero sum. So who's getting taken advantage of for all these firms to be so successful yeah at some point you think it's robot versus robot professional versus professional

and at times when it's slow when there's not a lot of volume i believe that is the case. And you'll see it in the P&L. But at other times, it becomes active. And I think it's been a lot different in the past five years or four years. The proliferation of retail trading options has exploded. The proliferation of these ETFs that are created that trade options, whether it's on the indices like JEPI or even single stock ETFs that are overriding calls. I think there's a bunch there. I think YieldMax has a bunch. These have quite a lot of AUM. I think over 200 billion of AUM in all of these and growing fast. So I think now there's just a lot more diverse players. There's also a lot more products. There's a lot of retail and zero DTE and quite sophisticated retail, I would say. So I would say before, probably like 2011 through 2015, 2016, maybe it was a little bit of that professional versus professional.

But now I think there's just so many more diverse players. There's big institutions getting into options. I remember when I started back in 2006, somebody from a very large hedge fund in New York was talking to me and they were long, short equity fund. Billion dollar positions, multi-billion dollar positions and names. They never traded a single option ever. Wow. So you ask them, you know, what do you think stocks going to do in the next, you know, three months? He's like, it's going to be in this range.

And you look at the straddle and like, well, that straddle is a sale. And he's like, well, what do you mean? And you're like, well, you have a position. You should sell like 5,000 of these straddles. And so back then, even large hedge funds had no idea about options. But even recently, I think everybody knows SoftBank got into options in a big way in 2020 and 2021. They're buying a lot of upside options and big cap tech. So that's just another player. And I think there's going to be more and more diverse players in the options market. So it's not going to be professional versus professional.

There's going to be people doing things for different reasons, whether they're overwriting, whether they're speculating, and they're big. And so back to our poker talk, like the poker analogy is you have the six pros, five pros are at the table on a Tuesday night in Atlantic City. There's no other guests. They're just kind of, they're going to go back and forth and basically be flat. Now a couple tourists come in and maybe a big spender, corporate guy comes in and like, okay, now we've got some new money in the game that we can trade around and get around. Yeah. And not everybody's trading vol, for example.

Some people are overriding, so they just want that yield. So they're not very vol sensitive. So that provides opportunity. There's people that are speculating, just buying options. So they're a little bit more price sensitive, but they're not vol sensitive. So they might say an option's a dollar, but you're like, wow, that vol is high. But they're like, it's a dollar. It's cheap for what I think the stock could do. So it's for different reasons. And then people are hedging it with the stock.

So yes, there is a little bit of a zero-sum game but it's so intertwined with so many players you know you're training the stock you're training the option this person's training ball this person's training direction um that there could be a lot of winners um at all at the same time it would a simplistic model be like jeffy um and what we're saying j-e-pEPY I think is the signal, right? They're selling calls against the S&P essentially? Yeah. Yeah, they're selling calls.

So would it be fair to say like that strategy in a vacuum would return more, maybe 1% more a year or something or 50 bps a year more and like the prop firms are kind of earning that extra 50 bips by providing the supply to firms like Jepi. Total simplistic view, but. Yeah. So Jepi, so let's say Jepi sells that call, right? And over time stock goes up, but that call expires worthless, right? So Jepi, you know, they made money on the call. They made money on the stock.

But if, let's say, you're the prop firm, you buy that call, you think it's a cheap vol, maybe it realized the vol over time and you're dynamic hedging, you're doing different things. You could win also on that side if they sold the vol too cheap. So who's losing? Well, maybe the people trading the stock are losing because you're

gamma scalping back and forth the other people on the other side are negatively scalping themselves so it just depends um there's a lot going on i i don't think it's just one person versus another it's just it's just so intertwined it's a podcast we We're trying to simplify it to five boogeymen. Let's get into Zero Delta. How you started it, why you started it, what's going on behind the scenes, wherever you want to start there. Go for it. Yeah, I left trading in 2016 and took a year off and was trying to figure out what i wanted to do did i want to continue to trade um but my passion was always investing

my own money i always loved to do that and i wanted to invest in a strategy that was absolute return in nature but typically did well during market volatility. And I mean really well. And I didn't know anything like that except trading volatility. So I was just investing my own money in some vol traders that I knew. A lot of these traders that had these strategies were typically capacity constrained. So a lot of institutional allocators just overlooked them. A pension might need to allocate $300 million in a shot. And somebody trading some of these strategies could only handle maybe $50 million or $100 million.

So they didn't bother. But also the strategies were pretty complicated for just high net worth RIAs. So they overlooked it. It's like stuck in this weird spot. Yeah, stuck in this weird spot where maybe the trader has some of their own money or a lot of their own money and family and friends money. Maybe they have $20 million. And for a hedge fund, a lot of people say, you can't run a hedge fund at $20 million. Oh, yeah, you can.

You can be lean and run hedge funds at that size. Because if you have good returns, you're making a good living. So I would try and seek out hedge funds like that, where people have strong options pedigree, and they're trading a lot of their own money. And they have the same risk philosophy as I do. When there's nothing to do, do nothing, preserve the capital. And then when there's something to do, pounce. And I was doing well. My partner, Chris, joined after he left PropFirm

and he was investing his own money as well. He's been investing in hedge funds since the 90s. So we decided maybe we should just launch something where we could get an audited track record and family and friends could come along and anybody else. So we created this entity, Zero Delta Funds in May of 2021. We've been running it ever since. We launched it with just our own money. We weren't really looking at that point to raise big capital. All the time I'm seeing a trader from Citadel launches a new fund with $750 million. That wasn't our idea.

Our idea was to launch our own money. Those are all the great articles. Produce good risk-adjusted returns for ourselves and if other people want to come in, great. So that's what we did. But the concept is like you're back. Say you could put all the traders at all the prop firms in one room and you're sitting there at that desk. And you're like, well, I like what this guy's doing.

I like what this guy's doing. I like what that guy's doing. And kind of picking them out in that manner. And they've already left the prop firm. So you can't, which maybe we should clear this up for some people. Like you can't as an investor, put money into the prop firm for someone or for the prop firm to trade.

They're trading their own money. That's it. They don't want outside money. Yeah. And, and we don't even ask those traders to come up. It's really, we talk to people who have already left because then they have the mindset

that they want to leave already and they want to start something on their own. We don't want to convince anybody. Yeah. You know, that's part of our due diligence process is do they have the confidence and the will to do something on their own already? So we won't even talk to somebody who's at a, at a, already at a prop firm. They have to already have left, want to start this, want to start this with their own money

and get going. We don't make any assurances. And that's part of the due diligence process for us, is their mindset. And beyond their mindset, what are you looking at? Okay, you trade these types of options.

I know that. Tell me about the strategy. Yeah, definitely tell me about the strategy. What do you trade? We try to assess the risk. We try to assess the risk philosophy also. We also try to pick traders that have a single specialty.

There's a lot of people that say we trade options. So they might trade dispersion. They might trade just single stock relative value equity vol. They might trade a tail strategy. But if they try to do all those things at once, they're not a specialist. So we try to pick people who are specialists. So for example, we might have just a vol dispersion specialist. We might might have just a vol dispersion specialist. We might also have just a tail hedge specialist. Then we might have just a zero DTE specialist.

All they do is zero DTE. And that's kind of how we look for groups, specialists, because they focus on one thing, and then they typically don't have strategy drift where they try to do something else and we don't know about it because we're lp investors we're not managed account investors yeah um so that's a big deal for us and we've actually avoided strategy drift by picking specialists and then you want them to have skin in the game and have made enough money elsewhere where they don't feel the pressure to press to do something during a flat period. Yeah, but not necessarily.

So we're a little bit different. We tell people that we don't mind paying management fee because it keeps the traders patient, which I think a lot of traders, if they're not earning some sort of fees, could get a little impatient. Also, they don't necessarily have to be very wealthy. So, for example, we've invested in traders where they're very young. Maybe they traded for five years. Maybe they have maybe only $500,000.

But the point is they put all that $500,000 in their fund when they start, 100% of their net worth. So they're all in. And that's very comforting for us as well, where they believe in themselves so much and their family even. Who else is putting in? Are your brothers? Are your parents? That gives us a lot of comfort as well. We kind of, as an industry, as a group, interchangeably say options traders, vol traders. How do you view the difference? I feel like if we were having this talk 10 years ago, we would have been talking only as option traders. Right now we talk about vol traders. So what's the difference in your mind if there is one? There is. An option trader could be, vol traders are options traders.

Okay. But not all options traders are vol traders. So somebody who's a vol trader is looking at the actual vol and saying, this vol is too cheap or this vol is too expensive for whatever reason. And they're actually trying to isolate that vol and capture that vol. An options trader could be looking at different things. They could be looking at a premium capture strategy, a tail strategy. So for example, like zero DTE, you could say I have a premise that there's a vol risk premium, but also maybe the index tends to trend during the day, or I'm looking at the bid ask spread expanding or collapsing throughout the day. So they're not really looking at vol at all.

They're looking at different metrics. They're looking, you know, how far away is it from spot to hedge out all my risk and how does that change over time? So they're not looking at vol, but they're looking at prices. Or just like a simple bull call spread or something? Yeah, exactly. Looking at that, looking at different structures broken wing butterflies and why does that work um you know time spreads you know how do i

how do i increase my vega reduce my theta uh so if there's a a vol pop i don't get killed on the move but i could benefit from a vol pop um different things like that and vol cheap let's use everyone's favorite stock these days nvidia right so i don't even know what it's probably like my guess would be it's like a 40 vol or something or 60 yeah i don't even know but i think maybe a 40 ish let's call it right so when you're saying guys want to trade the vol or they think vol is cheap, let's use NVIDIA. It's got a 40 vol, which means you can do the math on what that means for annual movement. But probably, what does that mean? 120% annual movement or something?

16 times 4, 40, 240%? It depends on how you hedge it. But in general, 40 vol would mean like a two percent move every day yeah so they're saying hey this is two yeah i went i went the other way um 40 divided by 16 ish right so this vault trader theoretical vulture saying that's this thing is trading like a tech stock in 99 like two percent a day is way too small which it seems like that would be right so that's a vol trader saying i don't care really where the what the business case is what anything is i'm just looking at this versus the probability that it would be more volatile in the future exactly and you price vol based on the past, right? That's how you predict,

what did it do in the past? But a smart vol trader will say, well, this environment, for example, semiconductors, is a different environment than three years ago or five years ago. Something has changed. Now, does that mean these should be more volatile or less volatile? We can make an easy argument that more volatile, right? Especially on what these stocks are doing right now. Even when you look at a name like, let me just, a few years ago, there was Disney and Disney didn't have streaming and they wanted to get into Disney Plus. And you could look at that and like, Disney is a 20 vol't have streaming and they wanted to get into Disney+. And you can look at that and Disney is a 20-vol name.

But if they want to get into streaming, who are the streamers? Netflix. Well, Netflix is like a 40-vol name. So should Disney be a 20-vol name in the future? Well, maybe it should be like a 23-vol name. But then also you get new catalysts. They're going to release Disney plus subscriber growth numbers.

And they're going to release it on this date, so you get new catalysts. So pricing all of these little things into what you're doing gives you an edge. And I think a lot of these traders are looking for different kinds of edges, whether it's a macro edge or an event edge or they're trading something called skew. So that's like the downside options versus the upside options um different things like that and then you you've uncovered a few guys who you're what were we talking about yesterday of the you were asking them how they priced the vol and they're like i don't price the vol or the what was it vega versus

tell me yeah i like that story. Tell me that story. We were with one group, and we asked them, do you break down your vol P&L versus your gamma and your theta P&L? And they said no. And I was just thinking, well, it's kind of hard to figure out if you're making money on vol if you don't do that. So then another time i was in france and we found a trader he had he was just in an office by himself trading 15 million euros and i asked him you know so do you the same question do you break down your vol pno versus

your gamma and your theta and he looked at me almost angry, but kind of confused. He said, of course I do. How else do you trade vol? I was like, I love this guy. You're hired. Right, right. So we ask them nuanced questions like that, just very simple and just to hear their answer

and evaluate whether or not we think they're the real deal or not. Right, if they're truly sophisticated or whether they've just kind of stumbled upon something. Right. And so you'll travel, you'll fly to France and meet with a trader. You'll go wherever the trader is. Yeah. We're a little bit of a different kind of fund of funds in the sense that we typically don't invest in the large, well-known managers. We're really looking for

managers that don't have marketing material under the radar, don't go to conferences. So we're kind of like, I'm sure you've seen or read the book Moneyball. We're the ones going to the Dominican Republic, the Venezuela, the Japan, South Korea. Those are for baseball players. But we're going to places that are not typical to find options traders. We're going to France. Now, France has a very good derivatives background from the French banks.

We're going to Amsterdam. Amsterdam has a lot of option prop traders. We're going to Asia, different places there to find people trading different things. We're going all over the place to find traders and we find them through our trader network. We're also very active on LinkedIn, finding people who have previously traded at a big firm and just see what they're

doing now if they're doing something different and messaging them. So we're pretty aggressive in that manner. Love it. And how many are in the portfolio now? Right now we constructed a eight manager portfolio. I'd never see it being probably being more than 12. There's some in the bullpen that trade a little bit differently than what we're typically used to. So doing diligence on a few, but there's eight right now. And do you have preconceived? I only write, would you be like, I have 10 ball dispersion traders and two tail risk traders? Are you trying to balance that? No, we try to. And spread that exposures out.

Yeah, we try to balance it a little bit. Just because if vol dispersion is not good for a period of time, we want to make money in other vol strategies. So we try to spread it out a little bit. Now saying that, if we find another good vol dispersion manager, we'll just add it to the portfolio. But we'll have to determine the sizing of that. And then what have you seen from looking inside or getting these guys' monthly reports or talking with them of like, where are we at in terms of vault, right? VIX as a crude measure has gotten pretty low.

The inside dispersion has gotten very high, right? VIX as a crude measure has gotten pretty low. The inside dispersion has gotten very high, right? The NVIDIAs and things we're talking about are moving like crazy, but the index isn't really moving. So what's your thought on what you're hearing from these guys? Right now, what I'm hearing is that it is still a tricky market. It has been, but there's becoming a little bit more opportunities. And there's opportunities when stocks go, right? Like some stocks are going. These semiconductors are gone. If you've been following any of these pharmaceutical with like the Ozempic and the diabetes weight loss drugs, those have been going too.

So when stocks move a lot, there's going to be some opportunities. If you take out some of these big, large cap names out of the S&P and you look at all the rest of the names, all the rest of the names might be more correlated to a Russell 2000 index. So just looking at different ways to trade these could provide some opportunities. So I would say opportunity set is better than it was six months ago or a year ago. It's still okay. But one thing I would say is with a vol, you can never time when it's going to get good. It gets good in a flash. And you don't know how long it's going to stay good.

So that's kind of why I tell people, if you're a relative value vol, you kind of always have to be in it. You cannot time it. You cannot say, I think something's coming on the horizon. You might wait three years for that. Right, you could say, NVIDIA's vol is cheap or expensive.

It could keep doing that for years and years. Yeah, yeah. NVIDIA. And then it could die on you. Also, you could look at it. It's cheap now, but the vol could die. And you have to determine, okay, I'm paying a 40 or whatever it is. Where could vol go?

Versus, you know, you said VIX is low. A lot of option vols are low as well. But now, so in the risk reward, if you're buying vol, maybe it can't go much lower, you think. So you're getting good risk reward if something does happen, you could get a very big pop. And this is exactly what happened in 2019 going into 2020. 2019 was a very low vol year. And then at the beginning of 2020, if you had a thesis that this COVID might become a thing in January, some people were thinking that, you could say, okay, vol is up very slightly. But if you put on this trade, you know, very long vol trade in single stocks, my risk is, okay, I might lose a point or two. But I think I have a lot of upside where it can be generational wealth created. So you all, and I think that was very different from 2022. Now, a lot of people said, you know, going into 2022, going into 2022, I think there's going to be a market correction.

But vol was coming from a high place. So even if you thought that you bought vol, you were not rewarded. Yeah, we talked about that the other day. The 3,400 put, I think it was, if you bought it at the beginning of the year, market goes down 20%. It was at the same price at the end of the year. Yeah, it's great for a vol seller, right? So it just depends on where vol is coming from and your thesis. So pricing dictates a lot. It reminded me a lot of 2011 with the European debt crisis. Vol was still kind of high from the great financial crisis. So when you bought vol,

and even though the banks move, you weren't really rewarded that much um it was very similar so all depends on where vol is where you think it's going so right now vol is in a kind of a low low place i went i went to a talk once and the guy questioned the audience he's like if you had a time machine you went back to the start of the tech bubble what what trade would you put on to make the most money and he'd like the statistics showed selling puts was actually right a lot of everyone's like buy the out of the money puts but selling the monthly puts was actually the the highest return over that period because the vol just got so high yeah um which was always been interesting to me i know a trader that was shortfall all throughout the great financial crisis and made more money than a lot of the people that were long vol and that's a lot of it's because of the names you pick. If you're selling SAP vol when it's high or Target vol, Target got to 100, are those companies really affected that much as much as some of the financial companies were affected?

No, but they're trading on a higher vol. So it just depends on what names you're picking a lot of times. Some of that structural of like a firm selling the whole basket of stocks and it's... Yeah, yeah. Structural, it could be somebody... Puking out. It might have been Bill Ackman who was buying Target options. And I guess he wasn't a very sophisticated vol person because I think he was more on price.

Talk a little bit about the difference, right? A lot of the vol guests that come on here are trading S&P futures, SPX options, VIX futures, VIX options, like basically all basically all in just the index box so we've talked a lot about single name do you view single name as essential to be part of the VAL toolbox? yes, I definitely do part of the reason is because if you're trading just a few indices

if you're wrong, it's hard to make it back. In single stock options, you could have a very broad portfolio and be wrong on a few, and you have a whole book working for you. There's just a lot more opportunities. But doesn't it also get too big, right? If you're doing a classic,

if you had to be trading all 500 names, the S&P versus the index that can get expensive yeah yeah so a lot of people don't they might trade 50 names um in the s&p versus the s&p or versus the russell so i think you just have to get creative but i i like the single stocks they're also more capacity constrained um not now NVIDIA trades a lot of options. You can get big in NVIDIA. You can get big in Amazon, Tesla. But in general, you can't get as big as you're trading S&P or VIX

or different things like that. And I think that's why a lot of people gravitate towards those products is they could create a bigger hedge fund with those products with less manpower. When you're trading single stocks, it's manpower, it's technology, and it's capacity constrained. It's not very conducive if you want to build a large hedge fund. And talk through that a little bit. That's why these prop firms don't become $800 billion behemoths. Exactly.

They can only deploy a certain amount of capital in single stock equity options which is what what's that power curve look like there's like 15 names 50 names oh in single stock or like firms no in single stock names that like a peak six or some assess kind of can actually get their size off in? Maybe 50 names or 100. It's more now, I think, than it was. You could get a little bit bigger now. You have to be more sophisticated getting in and out than you used to.

The market makers are quite sophisticated. Yeah, so there's more names, but there's also a lot of names where there's a lot of edge they're not that are more thinly traded and if you know how to inventory that risk um you could do quite well in some non-liquid names as well um yeah i remember a story of one guy that they had this guy was trading all those illiquid stuff he went on vacation and his bids and offers weren't getting reflected in the pricing anymore. And the pricing like blew out huge on the bid ass and they were pricing it off the offer. I think in like the whole book looked terrible and it's like,

relax. It's just cause I haven't put my quotes in there. Yeah. Yeah. The book could get very Marky on those names. Yeah. So you kind of have to know, this is where I go back to.

You have to know where the PNL is coming from all the time. Is it becoming cut because you're actually losing, like you're short of all, and the stock is actually moving or is it just a mark or are you making on the actual of all? That's why I get back to breaking down the positions is very important. Love it. What else we got to cover where So you got a website, how do people get in touch

with you? Yeah, we have a simple website, zerodeltafunds.com. We're an open book. There's no secrets over here in what we're doing. People know vol trading, but I think a little bit of the difference in our firm is our approach to finding managers, the groups that are under the radar, the groups that I think are... Some of these traders are so talented and larger firms like the Millenniums and Citadels and Ballyasins of the world want them. But they just have the mindset that they want to compound their money, family and friend money, and run their own small firm on their own. And those are the firms that we find the best talent. So, yeah, so ZeroDeltaFunds.com. You can just email us right on the form there. And then the name, but you're not actually ZeroDelta all the time.

Or are you? We try to be. I'd say the managers have some flexibility on how they hedge their deltas. But the name kind of came from, there's two things. First, it was a joke. First, we would say, what's the delta of this happening? And we always say, oh, there's zero delta. First, it was a joke. First, we would say, what's the delta of this happening? And we always say,

oh, there's zero delta of that happening. What's the delta of us getting this business off the ground? Oh, zero delta. Oh, let's just name it zero delta. But also our portfolio, we try to have no directional risk in our portfolio.

Sometimes it is because you pick up deltas from gamma, but we try to have it flat. That's a very Chicago trader community thing of just like, what are the odds that it doesn't rain for the Cubs, right? People would be like, I give it a 10 delta, we actually get to this Cubs game and it doesn't rain. Or like the guy's drinking at the bar.

I'd give it an 80 delta, that guy falls off his stool. Exactly. It's a Chicago language definitely chicago trader language uh and last piece we didn't hit on i think they're trying to be zero delta but you're also trying to be positive skew or long convexity at the end of the day right that is definitely what we're trying to do um we follow the pareto principle i think 80 of the money is made 20 of the time i actually think it might be more like 90 10 um those periods are very lucrative and you have to be in the game you have to have dry powder to really capitalize on it. I would say we look for managers more with a long vol bias.

That doesn't mean they need to be long vol all the time. So a good example that I went back to before was SoftBank. They pushed Amazon vol up into the 60s. Now, you can't be long a book when some of these names are trading on ridiculously high levels, but you're protected a lot. You know, Amazon needs to move more than 3% a day over a sustained period of time for you to lose on that. So they try to, but at times they might be shortfall, but we're always protected on the tails, I would say. Yeah, which is perfect, right? And if you can carry uh flat ish right so positive and then have those pops that's the ideal yeah we try to in single

stock equity options there's opportunities at different time so we try to have you know the the upper single digits, low double digits returns, but then really, really have high returns when in quick risk off events, the COVID, great financial crisis, dot com bubble and bust even even times like uh august 2015 when china devalued or taper tantrum in 2018 or volmageddon you make a lot of money during those periods if you know what you're doing what do you think this is totally out of left field not what you do but right you don't really care what is the next catalyst but you have any guesses what the next catalyst might be? No idea. I think that's the best part about ball trading is it typically comes out of left field. Right, or else it's already priced in. Yeah, so always out of left field. You know, like India moved 8% last week one day.

Eurostox was down 3%. So yeah, there's political stuff happening over there. Yeah, there's a lot of political things in the world. I don't know if it's going to be a war. I don't know what it's going to be. My guess is some huge Home Depot or someone comes out and says, well, we're pulling back on our AI spend. We don't think it's all that good.

And then another one, and all of a sudden, NVIDIA is cut in half. Yeah, it could be a big catalyst like that. It could also be something tied to interest rates and inflation and our deficit where people haven't cared, but then they start to care. And that, I feel like they're navigating a cruise ship in a small canal. That's going to be a tough one to turn around. Now, everybody knows it's there, but nobody knows when people are going to care. So that could be the canary in the coal mine here. I like it. And again, that's not what either of us do.

So it doesn't matter what we think, but it's fun to speculate. Right. But you still need to, in the back of your mind, always be aware of these things and position your portfolio for what you don't know as well. And also recognize that you don't know everything. The best traders are the ones that know that you don't know everything. The best traders are the ones that know that they don't know. They don't have an ax and try and fight the market. If you try and fight the market, typically, it won't end well for you. So being flexible, going with the flow,

trading what's in front of you, having your thesis, having your risk rewards, that's the name of the game and protecting capital. I love it. Can't say it any better than that. All right. Thanks so much, Gary. Thanks, Jeff. Safe travels back to Miami.

It's like, what's going on? It's flooding and raining down there. Yeah, we had no rain for six months and now it's all coming in one week. Yeah. Yeah, 10 Delta. 10 Delta, I get back to the airport tonight, by the way. There you go. All right. Thanks so much. We'll talk to you soon. Thanks. 10 Delta. 10 Delta. I get back to the airport tonight, by the way. There you go. All right. Thanks so much. We'll talk to you soon.

Thanks. Take care. Okay. That's it for the pod. Thanks to Gary and Zero Delta. Thanks to Jeff Berger for producing. We'll be off next week for the 4th of July and have something for you after that. Peace. You've been listening to The Derivative. Links from this episode will be in the episode description of this channel. Follow us on Twitter at RCM Alts and visit our website to read our blog or subscribe to our newsletter at rcmalts.com. If you liked our show, introduce a friend and show them how to subscribe. And be sure to leave comments. We'd love to hear from you. This podcast is provided for informational purposes only and should not be relied upon as legal, business, investment, or tax advice. All opinions expressed by podcast participants

are solely their own opinions and do not necessarily reflect the opinions of RCM Alternatives, their affiliates, or companies featured. Due to industry regulations, participants on this podcast are instructed not to make specific trade recommendations nor reference past or potential profits. And listeners are reminded that managed futures, commodity trading, and other alternative investments are complex and carry a risk of substantial losses. As such, they are not suitable for all investors.