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4 Ways to Diversify a Portfolio

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When we are keeping primarily short premium positions in our portfolio, it is important to us to ensure that our portfolio is diversified. Over the years, we at tastytrade have developed various paths that can lead to a diversified portfolio, and today Pete, Tony, and Frank review some of those diversification tools.

Diversify by Underlying

Traders can use the correlation between two stocks to see whether those two potential underlyings have historically moved together or had no real relationship.

Diversify by Strategy

Strategies on the same underlying exhibit correlations as well, and we have used these relationships to diversify positions on an underlying that we tend to play often, like SPY and TLT.

Diversify by Implied Volatility

We have recently been checking the correlation between stocks’ implied volatility indices to the end of diversifying the short vegas in our portfolio.

Diversify by VIX

Finally, we have found that short premium trades on SPY, like short strangles and straddles, have been much less correlated to movement in the VIX than short call spreads in VIX. This is because our short SPY premium trades are paid much more often via theta decay and lack of price movement than via VIX movement.

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