From the July 01, 2009 issue of Futures Magazine • Subscribe!

Santaularia: Negative delta & beta, positive returns

Parrot Trading Partners LLC (PTP) executes its Calendar Condor strategy — a phrase Parrot founder Jes Santaularia coined— to provide investors with diversification and a non-correlated return stream. The strategy involves trading diagonal calendar spreads in options on the S&P 500, maintaining close to a delta neutral position.

The strategy maintains a slight bearish bias to account for the greater volatility of downward moves and to offer greater diversification from the typical long equity portfolio.

Santaularia will sell options in nearby months and buy options in the deferred months to take advantage of the greater time decay in close to the money options.

He does not care what direction the broader market is going and his strategy has proven that it does not matter. “Over the last five years when markets have gone no where, basically flat, we are up more than 110%,” Santaularia says.

Santaularia likes to compare his strategy to insurance. “There are people who want to buy short term insurance,” Santaularia says. “We sell them puts and calls in the front months and what we do to hedge our portfolio, as Warren Buffet would say, is we reinsure. To do that we buy puts and calls in deferred months. Our cost for reinsurance in the deferred months is less per day that the cost of the insurance we sell in the front months. [When you] collect that spread consistently over the course of time you generally will be profitable in the long run.”

Santaularia simply wants to consistently make an edge over time. “The cost per day is significantly more in the front months than the cost per day in the back months and that is because of the volatility skew between long dated options and short dated options,” he adds.

Santaularia says that like the insurance industry, his strategy has claims. “Insurance companies have hurricanes and tornadoes and we do too. We will have two or three of those a year. Last year it was the September/October period. In those short periods of time we will lose money but as long as we are consistently generating premium over the long-term we will be profitable.”

PTP had several claims in the last quarter of 2008. Ironically it happened in the midst of a huge bear market. Despite its bias, the strategy got caught in the upward spikes in the midst of the downward spiral, losing 23% in October and turning a fantastic year into simply a good one. The strategy returned 10.98% in 2008. Perhaps more ironic is that PTP had its best year, 63.24% in 2007, when equity markets set their all time high.

Santaularia attributes this to the unique benefits of options. He says that options are the only instrument that can produce positive returns in an up market with the negative delta/negative beta positions his program maintains. “You can’t do it with any other instrument because if you are negative it will go directly against you. The option buyer has to be right three dimensionally: he has to be right on direction, he has to right on timing and he has to be right on price. We are net option sellers and that is why we were profitable in 2007.”

Jes spends much of his time in Florida though PTP is still based in Lawrence Ks. and has a satellite office in Denver where Charlie Santaularia, Jes’ son and a principle at PTP, works on marketing and back office functions.

The program has not fully recovered from the drawdown that started in September of 2008 but that does not worry Santaularia. “Our goal is to be profitable every year and to beat the [S&P 500] by 500 basis points, and over the course of time we have done a pretty good job of that,” he says. The program has produced a compound annual return of 18.63% since April 2004, a period which saw the S&P 500 produce a compound annual return of -2.96%.

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