Quarterly Deep Dives… Advanced Option & Vol Trading

I remember reading in David Epstein’s terrific book Range a bit about a long-term study looking at high-powered consultants from top business schools and their ability to effectively tackle problems. What they found was that these so-called “masters of the universe” were actually quite good at quickly assessing simple well-defined problem sets; you know, the kind you typically find while attending business school.

But… when faced with more complex real-world issues, the kind where the first solution that comes to mind isn’t often the right one. They became ineffective and defensive… their personalities “brittle” and incapable of thinking outside the box.

I find that funny. You know, since that’s what their job kinda-sorta is… but I digress. 

Management consultant types are smart, can speak intelligently, but many (if not most) suffer from what’s called “single-loop learning”, which is the kind of learning that favors the first familiar solution that comes to mind.

This type of thinking is great in what Epstein and his peers refer to as narrow domains. These are games or areas with defined rules and linear causal chains. Things like chess, firefighting, and gardening come to mind.

Where this mode of thinking becomes detrimental is in what’s called wicked domains. These are domains where the rules of the game are incomplete, feedback is delayed or non-existent, and the causal chains dynamic. You know, the real world… economics, financial markets, jazz music, etc…

I’m of the belief that… narrow domain single-loop thinking… is the reason most smart people struggle with the “wicked” nature of markets and fail as traders.

They’re too clever by half. Know a lot about a little. And this rigidity of mind is what does them in. The randomness of the tape and the incredible dynamics of the market and economic system, cannot at all fit in their neat little logical minds. Massive square peg, tiny round hole problem.

The best traders I know come in either two types: Hedgehogs or Foxes (and I’m slightly bastardizing Tetlock’s nomenclature here): 

  1. Hedgehogs: They’re naturally smart but think and act simple-minded. They possess zero arrogance and do not pretend to understand many things about the market and why things happen. But, they have a simple and powerful edge that they execute with ruthless efficiency over and over again.
  2. Foxes: They’re smart and deeply curious about nearly everything. As a result, they know a little about a lot and balance this out with a healthy dose of humility. And, instead of having one big edge, they effectively combine many small edges.

In my experience, hedgehogs make higher returns. At least when trading small stakes. It’s often tough for them to scale. While foxes can more effectively manage large pools of capital and typically have more staying power.

This is based on zero research. Just my two cents…

Anyways, I think it’s important one knows which character type they are. You have to know what game you’re playing if you want to win. And it’s crucial that your disposition be aligned with your approach, or else conflict is inevitable.

I myself am a fox. I use trading as an excuse to feed my curiosity. I like to learn a little about a lot of things. That’s why macro discretionary is a good fit. It’s open-ended and I’m not constrained by one particular approach or set of philosophical dogmas.

This, I guess, somewhat brings me to why I’m writing this note but got a bit sidetracked. 

We’re going to kick off our first Quarterly Deep Dive series next week. This is where the team, myself, and whoever from the Collective wants to participate, will go deeeeeeeep into a subject that interests us. And which we think learning about could help us all make more money. 

The idea is that we’ll put together a list of books, papers, courses, and interview subjects curated by those in our group who are already domain experts. We’ll then go down the rabbit hole… take notes, formulate strategies, backtest ideas, etc… At the end, the team and I will collate everything we learned and share it back with the group, through reports and mini-courses. 

We’re going to kick things off with a focus on advanced options and volatility trading

Options make up a good deal of our strategy at MO. But, I consider myself a tourist, especially when it comes to some of the more esoteric realms of the vol domain.

I think this is particularly pertinent to today. The level of options trading is at record highs and these derivative flows are impacting the actual prices of the underlying… Things like Vanna, Charm, and a host of other names that I won’t even pretend to understand.

We’re lucky since the Collective already has a number of some of the smartest professional option/vol traders in the game. So I’m excited to do some brain picking, learning, sharing, and getting a good knowledge fly-wheel going.

We’ll start by putting together a big list of the best materials to dive into. I’ll post this in the slack and we can crowdsource it from there.

One of the main takeaways from Range is that humans are relational analogical thinkers. We’re not great at true originality. Our real genius comes in our combining of ideas. This is why we benefit so much from the cross-seeding of domains. It’s why a hallmark of prolific scientific labs is a team of diverse professional backgrounds. The more varied analogies, the more relational learning, the more breakthroughs.

Our Collective is uniquely enabled to create an ideal environment for this. We’re made up of a bunch of foxes and a good number of hedgehogs. We have wildly diverse personal and professional backgrounds and we’re all passionately devoted to the game of speculation. 

I’m hoping this new Deep Dive venture will help further kick this learning machine into gear.

You start with the fundamentals, get a solid foundation fueled by understanding the principles of your discipline, then you expand and refine your repertoire, guided by your individual predispositions, while keeping in touch, however abstractly, with what you feel to be the essential core of the art. ~ Josh Waitzkin, “The Art of Learning”

Feel free to shoot me any book/paper/podcast/course suggestions you have.

…Also, a friendly reminder for those of you looking to join our little group. The Collective enrollment period ends this Sunday night. So if you’re interested in signing up just click this link here and get after it. And in full transparency, we’re raising our prices throughout the year in an effort to manage the size of our membership base, since existing Operators, as well as the MO team, want to keep it small and personal. Join or not, thank you for being a reader of our work!


Your Macro Operator, 


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