The State Price Density Implied by Crude Oil Futures and Option Prices

AFA 2016 Meetings Paper

46 Pages Posted: 20 Jan 2012 Last revised: 5 Oct 2017

Peter Christoffersen

University of Toronto - Rotman School of Management; Copenhagen Business School; University of Aarhus - CREATES

Xuhui (Nick) Pan

Tulane University

Date Written: October 4, 2017

Abstract

We show that both large oil price increases and decreases are associated with deteriorating economic conditions. This suggests that the projection of the state price density (SPD) on oil returns should display a U-shaped pattern and that is indeed the result when estimating it from oil futures and options prices. Furthermore, when economic conditions deteriorate, the U-shaped SPD becomes steeper in both tails so that investors assign higher state prices to very low and very high oil returns. Finally, we find that an increase in economic activity lowers the representative agent's relative risk aversion towards oil price changes.

Keywords: State price density; macroeconomic condition; crude oil; risk aversion

JEL Classification: G12, G13

Suggested Citation

Christoffersen, Peter and Pan, Xuhui (Nick), The State Price Density Implied by Crude Oil Futures and Option Prices (October 4, 2017). AFA 2016 Meetings Paper. Available at SSRN: https://ssrn.com/abstract=1988449 or http://dx.doi.org/10.2139/ssrn.1988449

Peter Christoffersen

University of Toronto - Rotman School of Management ( email )

105 St. George Street
Toronto, Ontario M5S 3E6 M5P 3C4
Canada
416-946-5511 (Phone)

HOME PAGE: http://www.christoffersen.com

Copenhagen Business School

Solbjerg Plads 3
Frederiksberg C, DK - 2000
Denmark

University of Aarhus - CREATES

School of Economics and Management
Building 1322, Bartholins Alle 10
DK-8000 Aarhus C
Denmark

Xuhui (Nick) Pan (Contact Author)

Tulane University ( email )

7 McAlister Dr.
New Orleans, LA 70118
United States

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