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Long memory and the relation between implied and realized volatility
, 2006
"... ∗This paper was written for the workshop “Modélisation, estimation et prévision de la volatilité/Modeling, estimating and forecasting volatility, ” Universite ́ de Montréal, April 28, 2001, and was briefly circulated under the title “A fundamentally different interpretation of the relation betwe ..."
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∗This paper was written for the workshop “Modélisation, estimation et prévision de la volatilité/Modeling, estimating and forecasting volatility, ” Universite ́ de Montréal, April 28, 2001, and was briefly circulated under the title “A fundamentally different interpretation of the relation between implied and realized volatility. ” We are grateful to Nagpurnanand Prabhala for providing his option price data. We thank the Editors (René
Volatility Information Trading in the Option Market
"... This paper investigates informed trading on stock volatility in the option market. We construct nonmarket maker net demand for volatility from the trading volume of individual equity options and find that this demand is informative about the future realized volatility of underlying stocks. We also ..."
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This paper investigates informed trading on stock volatility in the option market. We construct nonmarket maker net demand for volatility from the trading volume of individual equity options and find that this demand is informative about the future realized volatility of underlying stocks. We also find that the impact of volatility demand on option prices is positive. More importantly, the price impact increases by 40% as informational asymmetry about stock volatility intensifies in the days leading up to earnings announcements and diminishes to its normal level soon after the volatility uncertainty is resolved. THE LAST SEVERAL DECADES have witnessed astonishing growth in the market for derivatives. The market’s current size of $200 trillion is more than 100 times greater than 30 years ago (Stulz (2004)). Accompanying this impressive growth in size has been an equally impressive growth in variety: The derivatives market now covers a broad spectrum of risk, including equity risk, interest rate risk, weather risk, and, most recently, credit risk and inflation risk. This phenomenal growth in size and breadth underscores the role of derivatives in financial markets and their economic value. While financial theory has traditionally emphasized the spanning properties of derivatives and their consequent ability to improve risksharing (Arrow (1964) and Ross (1976)), the role of derivatives as a vehicle for the trading of informed investors has emerged as another important economic function of these securities (Black (1975) and Grossman (1977)). We contribute to the body of knowledge on the economic value of derivatives by investigating the role of options as a mechanism for trading on information about future equity volatility. Our focus on informed volatility trading is motivated to a large extent by the fact that equity options are uniquely suited to investors with information about future volatility. Unlike traders with
2001): “Forecasting Financial Market Volatility: A Review
"... agement School Research Committee for financial support. We would like to thank Han Lin for excellent research assistance, and her patience in assembling the source articles twice after a lost luggage incident. We thank Christine Brown, Kevin Davis, Francis Diebold and participants at the AFA meetin ..."
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agement School Research Committee for financial support. We would like to thank Han Lin for excellent research assistance, and her patience in assembling the source articles twice after a lost luggage incident. We thank Christine Brown, Kevin Davis, Francis Diebold and participants at the AFA meetings (New Orleans) for helpful comments. A large part of this research was conducted while SerHuang Poon was a visiting scholar at the Economics Department, University of California, San Diego.
Using Implied Volatility to Measure Uncertainty About Interest Rates.” Federal Reserve
 Bank of St. Louis Review, May/June
"... Option prices can be used to infer the level of uncertainty about future asset prices. The first two parts of this article explain such measures (implied volatility) and how they can differ from the market’s true expectation of uncertainty. The third then estimates the implied volatility of threemon ..."
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Option prices can be used to infer the level of uncertainty about future asset prices. The first two parts of this article explain such measures (implied volatility) and how they can differ from the market’s true expectation of uncertainty. The third then estimates the implied volatility of threemonth eurodollar interest rates from 1985 to 2001 and evaluates its ability to predict realized volatility. Implied volatility shows that uncertainty about shortterm interest rates has been falling for almost 20 years, as the levels of interest rates and inflation have fallen. And changes in implied volatility are usually coincident with major news about the stock market, the real economy, and monetary policy. Federal Reserve Bank of St. Louis Review, May/June 2005, 87(3), pp. 40725. Economists often use asset prices along with models of their determination to derive financial markets ’ expectations of events. For example, monetary economists use federal funds futures prices to measure expectations of interest rates (Krueger and Kuttner, 1995; Pakko and Wheelock, 1996). Similarly, a large literature on fixed and target zone exchange rates has used forward exchange rates to measure the credibility of exchange rate regimes or to predict their collapse (Svensson,
Robust replication of volatility derivatives
, 2003
"... Postscript/PDF files of these overheads can be downloaded from: www.petercarr.net or www.math.nyu.edu\research\carrp\papers ..."
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Postscript/PDF files of these overheads can be downloaded from: www.petercarr.net or www.math.nyu.edu\research\carrp\papers
Does the Option Market Produce Superior Forecasts of NoiseCorrected Volatility Measures?
, 2007
"... Working Paper 5/07Does the option market produce superior forecasts of noisecorrected volatility measures? ..."
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Working Paper 5/07Does the option market produce superior forecasts of noisecorrected volatility measures?
Dynamics of Realized Volatility and Correlations: An Empirical Study Using Interest Rate Spread Options
, 2001
"... by HydroQuébec. 3 We have benefited from the useful commentsof JeanHugues Lafleur. All remaining errors are our responsibility. This study empirically examines the competitiveness of different forecasting sets of realized volatilities and correlations using linear and nonlinear specifications of t ..."
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by HydroQuébec. 3 We have benefited from the useful commentsof JeanHugues Lafleur. All remaining errors are our responsibility. This study empirically examines the competitiveness of different forecasting sets of realized volatilities and correlations using linear and nonlinear specifications of time series based on high frequency data. The linear specification uses lagged explanatory variables to explain fractionally integrated series of realized volatilities and correlations. The nonlinear specification consists of a twostep approach. In the first step, joint time series of realized volatilities and correlations are filtered using a multivariate singular system analysis approach. Based on the cleaned series, vectors of nearest neighbors are identified in space and casted into a local linear regression to generate forecasts in the second step. The empirical performance of those specifications is compared to a GARCH diagonalBEKK model in the context of a trader who would simultaneously quote a call spread option price based on the forecasted parameters and deltahedge her position with a replicating portfolio. More traditional loss functions based on the absolute forecasting error are also used. The forecasting methodologies based on time series of realized volatilities and correlations generally (but not unanimously) dominate the GARCH approach. Evidence of nonlinearity seems apparent for time series of volatilities irrespective of the return sampling frequency. General performance ranking for the approaches based on realized volatilities and correlations is not robust to the chosen loss function and the return sampling frequency.
Stock Market Uncertainty and the Relation between Stock and Bond Returns
, 2002
"... The authors examine how the comovement between daily stock and Treasury bond returns varies with stock market uncertainty. They use the lagged implied volatility from equity index options to provide an objective, observable, and dynamic measure of stock market uncertainty. The authors find that s ..."
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The authors examine how the comovement between daily stock and Treasury bond returns varies with stock market uncertainty. They use the lagged implied volatility from equity index options to provide an objective, observable, and dynamic measure of stock market uncertainty. The authors find that stock and bond returns tend to move substantially together during periods of lower stock market uncertainty. However, stock and bond returns tend to exhibit little relation or even a negative relation during periods of high stock market uncertainty. The authors ’ findings have implications for understanding joint crossmarket price formation. Further, their findings imply that diversification benefits increase for portfolios of stocks and bonds during periods of high stock market uncertainty.
The Information Content of Option Implied Volatility Surrounding the 1997
 Hong Kong Stock Market Crash”, Journal of Futures Markets
, 2007
"... (a company incorporated with limited liability) ..."
Foreign Exchange, Fractional Cointegration and the ImpliedRealized Volatility Relation
, 2007
"... helpful comments and encouragement. The opinions expressed in the paper and any remaining errors remain our responsibility. Foreign Exchange, Fractional Cointegration and the ..."
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helpful comments and encouragement. The opinions expressed in the paper and any remaining errors remain our responsibility. Foreign Exchange, Fractional Cointegration and the