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I'm trying to understand what makes a realized volatility estimate tradeable.

Quoting from an abstract "I define an estimate as "tradable" if it is attainable from a static position in options a dynamic trading of the underlying." An example of a tradeable estimate is giving by this presentation here http://www.cboe.com/rmc/2015/CBOE-Bruno-2015.pdf

I do not understand what makes this tradable.

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  • $\begingroup$ I think he's just saying that of you can estimate vol in terms of things that can be traded. He then adds the additional stipulation that the option position is static, as while a dynamic portfolio of options is perfectly tradable, it may become prohibitively expensive. If on the other hand the model required something like "the number of times trump appears in the press", then this is not directly tradable. $\endgroup$ – will May 22 '17 at 6:38
  • $\begingroup$ Agreed, @will you should post this as an answer. $\endgroup$ – Quantuple May 22 '17 at 7:37
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The full abstract is here.

Title: Tradable Estimates of Historical VolatilityAbstract: There are many estimates of historical volatility, based on time samples, price level samples, on high and low. I define an estimate as "tradable" if it is attainable from a static position in options a dynamic trading of the underlying. I characterize the unbiased tradable estimates, show that the difference of two of them is a costless dynamic strategy and show how the daily/weekly trade performs on various time periods.The usual estimates based on high and low are not tradable. Surprisingly, it is not because high and low are not stopping times but because they do not depend quadratically on the final value. I introduce a new high and low based estimate that is tradable and unbiased.I conclude by using the newly developed Functional Ito Calculus to characterize the contingent claims that can be replicated by a model free strategy of dynamically trading the stock.

They are just arbitrarily defining tradable to be a specific subset of tradable. This is just a practicality thing - one could happily set up some OTC contract on whatever they want, the same way you can walk into a bookie and set up a trade on a completely arbitrary event with them. Technically this means that anything is tradable if you can find someone to take the other side; that does not make it practical.

It's also a data thing. By stipulating that it is a static position of options and dynamic holding of the underlying, the estimator becomes something that is actually useful to people with the required data to use it - I could create the perfect model of the financial markets if i were omniscient, but it would be of no use to you (assuming you're not also omniscient).

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  • $\begingroup$ I guess now what I'm failing to understand is when is a realized vol estimator NOT tradable? To me all the ones listed in Dupires presentation seem tradeable. $\endgroup$ – pyCthon May 22 '17 at 18:53

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