  Equity basket correlation can be estimated both using the physical measure
from stock prices, and also using the risk neutral measure from option prices.
The difference between the two estimates motivates a so-called "dispersion
strategy''. We study the performance of this strategy on the German market and
propose several profitability improvement schemes based on implied correlation
(IC) forecasts. Modelling IC conceals several challenges. Firstly the number of
correlation coefficients would grow with the size of the basket. Secondly, IC
is not constant over maturities and strikes. Finally, IC changes over time. We
reduce the dimensionality of the problem by assuming equicorrelation. The IC
surface (ICS) is then approximated from the implied volatilities of stocks and
the implied volatility of the basket. To analyze the dynamics of the ICS we
employ a dynamic semiparametric factor model.
