Abstract

http://ssrn.com/abstract=1946412
 
 

References (34)



 
 

Citations (40)



 


 



Understanding Index Option Returns


Mark Broadie


Columbia University - Columbia Business School - Decision Risk and Operations

Mikhail Chernov


UCLA Anderson

Michael Johannes


Columbia University

January 8, 2008

Review of Financial Studies, Vol. 22, No. 11, pp. 4493-4529, 2008
Columbia Business School Research Paper

Abstract:     
Previous research concludes that options are mispriced based on the high average returns, CAPM alphas, and Sharpe ratios of various put selling strategies. One criticism of these conclusions is that these benchmarks are ill suited to handle the extreme statistical nature of option returns generated by nonlinear payoffs. We propose an alternative way to evaluate the statistical significance of option returns by comparing historical statistics to those generated by option pricing models. The most puzzling finding in the existing literature, the large returns to writing out-of-the-money puts, is not inconsistent (i.e., is statistically insignificant) relative to the Black-Scholes model or the Heston stochastic volatility model due to the extreme sampling uncertainty associated with put returns. This sampling problem can largely be alleviated by analyzing market-neutral portfolios such as straddles or deltahedged returns. The returns on these portfolios can be explained by jump risk premiums and estimation risk.

Number of Pages in PDF File: 48

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Date posted: October 20, 2011  

Suggested Citation

Broadie, Mark and Chernov, Mikhail and Johannes, Michael, Understanding Index Option Returns (January 8, 2008). Review of Financial Studies, Vol. 22, No. 11, pp. 4493-4529, 2008; Columbia Business School Research Paper. Available at SSRN: http://ssrn.com/abstract=1946412

Contact Information

Mark Broadie (Contact Author)
Columbia University - Columbia Business School - Decision Risk and Operations ( email )
New York, NY
United States
212-854-4103 (Phone)
212-316-9180 (Fax)

Mikhail Chernov
UCLA Anderson ( email )
110 Westwood Plaza
Los Angeles, CA 90095-1481
United States
Michael Johannes
Columbia University ( email )
3022 Broadway
New York, NY 10027
United States
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