Variance Risk Premiums in Foreign Exchange Markets

32 Pages Posted: 8 Jul 2013 Last revised: 18 Jan 2016

Manuel Ammann

University of St. Gallen - School of Finance

Ralf Buesser


Date Written: April 1, 2013


Based on the theory of static replication of variance swaps we assess the sign and magnitude of variance risk premiums in foreign exchange markets. We find significantly negative risk premiums when realized variance is computed from intraday data with low frequency. As a likely consequence of microstructure effects however, the evidence is ambiguous when realized variance is based on high-frequency data. Common to all estimates, variance risk premiums are highly time-varying and inversely related to the risk-neutral expectation of future variance.

When we test whether variance risk premiums can be attributed to classic risk factors or fear of jump risk, we find that conditional premiums remain significantly negative. However, we observe a strong relationship between the size of log variance risk premiums and the VIX, the TED spread and the general shape of the implied volatility function of the corresponding currency pair. Overall, we conclude that there is a separately priced variance risk factor which commands a highly time-varying premium.

Keywords: Foreign exchange, Variance risk premium, Variance swap, Intraday data, Risk-neutral expectation, Jump risk

JEL Classification: C12, C13, F31, G12, G13, G15

Suggested Citation

Ammann, Manuel and Buesser, Ralf, Variance Risk Premiums in Foreign Exchange Markets (April 1, 2013). Journal of Empirical Finance, 23, 2013, pp. 16-32; University of St.Gallen, School of Finance Research Paper No. 2013/4. Available at SSRN:

Manuel Ammann (Contact Author)

University of St. Gallen - School of Finance ( email )

Unterer Graben 21
St.Gallen, CH-9000

Ralf Buesser


No Address Available

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