The Price of Political Uncertainty: Theory and Evidence from the Option Market

69 Pages Posted: 17 Jan 2014 Last revised: 19 Feb 2023

See all articles by Bryan T. Kelly

Bryan T. Kelly

Yale SOM; AQR Capital Management, LLC; National Bureau of Economic Research (NBER)

Lubos Pastor

University of Chicago - Booth School of Business

Pietro Veronesi

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

Multiple version iconThere are 4 versions of this paper

Date Written: January 2014

Abstract

We empirically analyze the pricing of political uncertainty, guided by a theoretical model of government policy choice. To isolate political uncertainty, we exploit its variation around national elections and global summits. We find that political uncertainty is priced in the equity option market as predicted by theory. Options whose lives span political events tend to be more expensive. Such options provide valuable protection against the price, variance, and tail risks associated with political events. This protection is more valuable in a weaker economy and amid higher political uncertainty. The effects of political uncertainty spill over across countries.

Suggested Citation

Kelly, Bryan T. and Pastor, Lubos and Veronesi, Pietro, The Price of Political Uncertainty: Theory and Evidence from the Option Market (January 2014). NBER Working Paper No. w19812, Available at SSRN: https://ssrn.com/abstract=2380464

Bryan T. Kelly (Contact Author)

Yale SOM ( email )

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AQR Capital Management, LLC ( email )

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National Bureau of Economic Research (NBER) ( email )

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Lubos Pastor

University of Chicago - Booth School of Business ( email )

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773-702-0458 (Fax)

HOME PAGE: http://www.ChicagoGSB.edu/fac/lubos.pastor/

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)

London
United Kingdom

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

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