The Term Structure of the Price of Variance Risk

34 Pages Posted: 7 Aug 2015

See all articles by Marianne Andries

Marianne Andries

University of Southern California

Thomas M. Eisenbach

Federal Reserve Bank of New York

Martin C. Schmalz

CEPR; University of Oxford - Finance; CESifo; European Corporate Governance Institute (ECGI)

Yichuan Wang

University of Michigan at Ann Arbor

Date Written: August 1, 2015

Abstract

We estimate the term structure of the price of variance risk (PVR), which helps distinguish between competing asset-pricing theories. First, we measure the PVR as proportional to the Sharpe ratio of short-term holding returns of delta-neutral index straddles; second, we estimate the PVR in a Heston (1993) stochastic-volatility model. In both cases, the estimation is performed separately for different maturities. We find the PVR is negative and decreases in absolute value with maturity; it is more negative and its term structure is steeper when volatility is high. These findings are inconsistent with calibrations of established asset-pricing models that assume constant risk aversion across maturities.

Keywords: volatility risk, option returns, straddle, term structure

JEL Classification: G12, G13

Suggested Citation

Andries, Marianne and Eisenbach, Thomas M. and Schmalz, Martin C. and Schmalz, Martin C. and Wang, Yichuan, The Term Structure of the Price of Variance Risk (August 1, 2015). FRB of New York Staff Report No. 736, Available at SSRN: https://ssrn.com/abstract=2640193 or http://dx.doi.org/10.2139/ssrn.2640193

Marianne Andries

University of Southern California ( email )

2250 Alcazar Street
Los Angeles, CA 90089
United States

Thomas M. Eisenbach (Contact Author)

Federal Reserve Bank of New York ( email )

33 Liberty Street
New York, NY 10045
United States
212-720-6089 (Phone)

HOME PAGE: http://teisenbach.github.io/

Martin C. Schmalz

CEPR ( email )

London
United Kingdom

University of Oxford - Finance ( email )

United States

CESifo ( email )

Poschinger Str. 5
Munich, DE-81679
Germany

European Corporate Governance Institute (ECGI) ( email )

c/o the Royal Academies of Belgium
Rue Ducale 1 Hertogsstraat
1000 Brussels
Belgium

Yichuan Wang

University of Michigan at Ann Arbor ( email )

500 S. State Street
Ann Arbor, MI 48109
United States

Do you have a job opening that you would like to promote on SSRN?

Paper statistics

Downloads
369
Abstract Views
3,162
rank
118,987
PlumX Metrics