A New Predictor of Real Economic Activity: The S&P 500 Option Implied Risk Aversion

59 Pages Posted: 17 May 2017  

Renato Faccini

Queen Mary, University of London

Eirini Konstantinidi

University of Manchester - Manchester Business School

George S. Skiadopoulos

University of Piraeus; Queen Mary, University of London, School of Economics and Finance

Sylvia Sarantopoulou-Chiourea

University of Piraeus

Date Written: April 21, 2017

Abstract

We propose a new predictor of real economic activity (REA), namely the representative investor’s implied relative risk aversion (IRRA) extracted from S&P 500 option prices. IRRA is forward-looking and hence, it is expected to be related to future economic conditions. We document that IRRA predicts U.S. REA both in- and out-of-sample once we control for well-known REA predictors and take into account their persistence. An increase (decrease) in IRRA predicts a decrease (increase) in REA. We extend the empirical analysis by extracting IRRA from the South Korea KOSPI 200 option market and we find that it predicts the South Korea REA, too. We show that a parsimonious yet flexible production economy model calibrated to the U.S. economy can explain the documented negative relation between risk aversion and future economic growth.

Keywords: Option prices, Risk aversion, Risk-neutral moments, Real Economic Activity, Production economy model

JEL Classification: E44, G13, G17

Suggested Citation

Faccini, Renato and Konstantinidi, Eirini and Skiadopoulos, George S. and Sarantopoulou-Chiourea, Sylvia, A New Predictor of Real Economic Activity: The S&P 500 Option Implied Risk Aversion (April 21, 2017). Available at SSRN: https://ssrn.com/abstract=2968821

Renato Faccini

Queen Mary, University of London ( email )

Lincoln's Inn Fields
Mile End Rd.
London, E1 4NS
United Kingdom

Eirini Konstantinidi (Contact Author)

University of Manchester - Manchester Business School ( email )

Booth Street West
Manchester, M15 6PB
United Kingdom

George Skiadopoulos

University of Piraeus ( email )

80 Karaoli & Dimitriou Str.
18534 Piraeus, 185 34 -GR
Greece

HOME PAGE: http://web.xrh.unipi.gr/faculty/gskiadopoulos/

Queen Mary, University of London, School of Economics and Finance

Lincoln's Inn Fields
Mile End Rd.
London, E1 4NS
United Kingdom

Sylvia Sarantopoulou-Chiourea

University of Piraeus ( email )

Karaoli and Dimitriou 80
80 KARAOLI & DIMITRIOU STREET
Piraeus, Attiki 18534
Greece

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