The Advantage of Asymmetric Risk/Reward
An asymmetric trade is when we have limited downside risk, but a lot more upside return potential. 😀
For example, earlier this year Great Britain held a referendum to decide whether or not it should leave the European Union. There was a 50/50 chance it could go either way. However most investors, traders and political pundits were pretty confident that the UK would vote to remain in the EU. So before the vote on June 23rd, the British financial markets were fully priced for a “stay” result. But when the votes were counted it turned out that they were wrong. So people panicked. Shortly after the vote, the British Pound dropped 15%, and the UK stock market also fell.
The UK referendum represented an asymmetric trading opportunity because if the people had voted to remain in the EU, then nothing much would have happened to the markets. But if they voted to exit, then there would be a large shakeup, which is what actually happened. 🙂
Parallel Opportunity in the United States
The U.S. presidential election on Tuesday this week represents another asymmetric event for the markets. Mainstream news sites and people on Wall St. are signally a 90% or greater chance that Hillary Clinton will win, and Donald Trump will lose. However, based on my own research on alternative news sites it appears to be more 50/50, so I expect the results to be pretty close. 🙂
What this means is the financial markets have already priced in a Hillary win. So there are two outcomes to the election and how it will affect investors over the short term. Below are possible examples of what could happen in each scenario.
- Hillary becomes president. No major movement in the stock market. Stocks won’t climb dramatically because almost everyone expected her to win, so it’s already priced in.
- Donald becomes president. Many people caught off guard. Sharp negative reaction in the financial markets. Gold goes up US $50/oz. Dow Jones stock index falls by 500 points. $USD loses 5% against $CAD.
To take advantage of this situation, one could short the US dollar or the US stock market, and buy the Canadian dollar or precious metals.