Gamma and Vega Hedging Using Deep Distributional Reinforcement Learning

05/10/2022
by   Jay Cao, et al.
0

We use deep distributional reinforcement learning (RL) to develop a hedging strategy for a trader responsible for derivatives that arrive stochastically and depend on a single underlying asset. The transaction costs associated with trading the underlying asset are usually quite small. The trader therefore normally carries out delta hedging daily, or even more frequently, to ensure that the current portfolio is almost completely insensitive to small movements in the asset's price. Hedging the portfolio's exposure to large asset price movements and volatility changes (gamma and vega hedging) is more expensive because this requires trades in derivatives, for which transaction costs are quite large. Our analysis takes account of these transaction cost differences. It shows how RL can be used to develop a strategy for using options to manage gamma and vega risk with three different objective functions. These objective functions involve a mean-variance trade-off, value at risk, and conditional value at risk. We illustrate how the optimal hedging strategy depends on the asset price process, the trader's objective function, the level of transaction costs when options are traded, and the maturity of the options used for hedging. We also investigate the robustness of the hedging strategy to the process assumed for the underlying asset.

READ FULL TEXT
research
03/29/2021

Deep Hedging of Derivatives Using Reinforcement Learning

This paper shows how reinforcement learning can be used to derive optima...
research
10/23/2020

Option Hedging with Risk Averse Reinforcement Learning

In this paper we show how risk-averse reinforcement learning can be used...
research
11/27/2021

Delta Hedging of Derivatives using Deep Reinforcement Learning

Building on previous work of Kolm and Ritter (2019) and Cao et al. (2019...
research
06/01/2020

On the optimality of joint periodic and extraordinary dividend strategies

In this paper, we model the cash surplus (or equity) of a risky business...
research
02/08/2022

Eliminating Sandwich Attacks with the Help of Game Theory

Predatory trading bots lurking in Ethereum's mempool present invisible t...
research
12/03/2021

Reinforcement learning for options on target volatility funds

In this work we deal with the funding costs rising from hedging the risk...

Please sign up or login with your details

Forgot password? Click here to reset