Abstract

http://ssrn.com/abstract=1746563
 
 

Citations (6)



 


 



Investors' and Central Bank's Uncertainty Embedded in Index Options


Alexander David


University of Calgary - Haskayne School of Business

Pietro Veronesi


University of Chicago - Booth School of Business; Centre for Economic Policy Research (CEPR); National Bureau of Economic Research (NBER)

January 21, 2014

Review of Financial Studies (Forthcoming)

Abstract:     
Shocks to equity options’ ATM implied volatility (ATMIV) are followed by persistently lower short-term rates. Shocks to the ratio of OTM puts’ over OTM calls’ implied volatilities (P/C) are followed by persistently higher rates. The stock’s and Treasury bond’s ATMIV indices, which measure market and policy uncertainty, are countercyclical while the P/C index, which measures downside risk, is pro-cyclical. An equilibrium model in which investors and the central bank learn about composite regimes of economic and policy variables explains these dynamics, linking them to a learning based, forward-looking Taylor rule. Survey data support our model’s predictions on the impact of uncertainty on the level and fluctuations of implied volatilities.

Number of Pages in PDF File: 73

Keywords: Fear measures, index options, central bank uncertainty, investors' uncertainty, predicting interest rates, nonlinearities, volatility of volatility, volatility premium, monetary policy

JEL Classification: G12, E4, E5

Accepted Paper Series


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Date posted: January 25, 2011 ; Last revised: January 28, 2014

Suggested Citation

David, Alexander and Veronesi, Pietro, Investors' and Central Bank's Uncertainty Embedded in Index Options (January 21, 2014). Review of Financial Studies (Forthcoming). Available at SSRN: http://ssrn.com/abstract=1746563 or http://dx.doi.org/10.2139/ssrn.1746563

Contact Information

Alexander David (Contact Author)
University of Calgary - Haskayne School of Business ( email )
2500 University Drive, NW
Calgary, Alberta T2N 1N4
Canada
Pietro Veronesi
University of Chicago - Booth School of Business ( email )
5807 S. Woodlawn Avenue
Chicago, IL 60637
United States
773-702-6348 (Phone)
773-702-0458 (Fax)
Centre for Economic Policy Research (CEPR)
77 Bastwick Street
London, EC1V 3PZ
United Kingdom
National Bureau of Economic Research (NBER)
1050 Massachusetts Avenue
Cambridge, MA 02138
United States
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