Hedge funds are retooling one of last year’s most popular options strategies – index dispersion trades – as market turbulence and macroeconomic uncertainty reshape the volatility landscape, according to a report by Bloomberg.
What was once a broad-based play on the gap between index and single-stock volatility is now evolving into more nuanced, stock-specific trades. April saw a significant spike in implied correlation on the S&P 500 – its highest average in over two years—even as earnings season progressed. Similar trends played out in European markets, where systemic macro themes overrode idiosyncratic stock stories.
While rising correlation typically diminishes the effectiveness of dispersion strategies, sophisticated hedge funds have adapted. By constructing tightly focused baskets of individual names with elevated realised volatility, many managers have continued to extract alpha.
“Despite the recent spike in correlation, dispersion trades have been profitable over the last few months,” said Michalis Onisiforou, flow derivatives strategist at BBVA. “Baskets were concentrated on names that saw higher realised volatility.” In Europe, volatility arbitrage traders have recently locked in gains by unwinding names where implied volatility has fallen after a spike in realised volatility.
Bloomberg data shows a hypothetical dispersion trade involving Swiss financial stocks versus the Swiss Market Index would have delivered strong returns in April, as the spread between implied and realised volatility widened.
Quantitative Investment Strategies (QIS) that incorporate dispersion overlays have remained active despite the broader volatility. According to Adrien Geliot, CEO of Premialab, these strategies performed particularly well in recent months. Defensive dispersion setups had already gained traction earlier this year and have grown more relevant amid heightened volatility.
JPMorgan strategists have advised traders to manage correlation shocks using partial intraday hedges or long volatility overlays via instruments such as VIX or VStoxx options—reflecting the need for more dynamic hedging in this environment.
Strategists at Bank of America continue to see the tariff-related macro risks as transient and largely reversible, recommending a more aggressive dispersion stance with a short volatility tilt.
The broader volatility landscape has also provided fertile ground for tactical hedge fund strategies. Some multi-strat managers exploited the volatility spike in early April with well-timed short-volatility carry trades, capturing double-digit gains as vol quickly normalised.
Still, the recent downturn in volatility has led to a more cautious approach. Antoine Porcheret, head of institutional structuring at Citigroup, noted that carry trades are now more concentrated in fixed-strike options, with greater attention to downside protection.
“Shorting vol is increasingly being done in a risk-limited way,” he said. “Dealers are less exposed to vol shifts, so any spikes tend to be short-lived—unlike the extended surges seen pre-Covid.”
