The Information Content of the Term Structure of Risk-Neutral Skewness
54 Pages Posted: 20 May 2017 Last revised: 21 Sep 2018
Date Written: September 10, 2018
We seek to reconcile the debate about the price effect of risk-neutral skewness (RNS) on stocks. We document positive predictability from short-term skewness, consistent with informed-trading demand, and negative predictability from long-term skewness, consistent with skewness preference. A term spread on RNS captures different information from long- and short-term contracts, resulting in stronger predictability. The quintile portfolio with the lowest spread outperforms that with highest spread by 14.64% annually. The term structure of RNS predicts earnings surprises and price crashes. The information difference between short- and long-term options explains the pricing difference of their RNS, providing a potential resolution to the debate.
Keywords: Risk-Neutral Skewness, Term Structure, Return Predictability, Hedging Demand, Informed Trading, Skewness Preference
JEL Classification: G12, G13, G14
Suggested Citation: Suggested Citation