66 Pages Posted: 13 Jan 2014
Date Written: January 10, 2014
We empirically analyze the pricing of political uncertainty, guided by a theoretical model of government policy choice. After deriving the model’s predictions for option prices, we test those predictions in an international sample of national elections and global summits. We find that political uncertainty is priced in the option market in ways predicted by the theory. Options whose lives span political events tend to be more expensive. Such options provide valuable protection against the risk associated with political events, including not only price risk but also variance and tail risks. This protection is more valuable in a weaker economy as well as amid higher political uncertainty.
Suggested Citation: Suggested Citation
Kelly, Bryan T. and Pastor, Lubos and Veronesi, Pietro, The Price of Political Uncertainty: Theory and Evidence from the Option Market (January 10, 2014). Becker Friedman Institute for Research in Economics Working Paper No. 2014-01. Available at SSRN: https://ssrn.com/abstract=2378544 or http://dx.doi.org/10.2139/ssrn.2378544
By Allan Malz