On the Nature of Jump Risk Premia

71 Pages Posted: 6 Jun 2019 Last revised: 9 Jun 2019

See all articles by Piotr Orłowski

Piotr Orłowski

HEC Montreal

Paul Schneider

University of Lugano - Institute of Finance; Swiss Finance Institute

Fabio Trojani

Swiss Finance Institute; University of Geneva

Date Written: May 21, 2019

Abstract

We shed light on the nature of jump risk compensation by studying the profits from a trading strategy that bets on the high-frequency jump skew of S&P 500 returns. Earlier evidence suggests the jump risk premium is large and positive. We find it to be concentrated in periods when the index option market is closed, and investors cannot trade options. Whenever jump skew can be traded continuously, the premium vanishes. We conclude the jump skew premium in index options is not compensation for the risk of occasional, large returns, but for the investors’ inability to adjust their nonlinear risk exposure.

Keywords: rare events, jump risk premium, options, high-frequency data

JEL Classification: G10, G12, C58

Suggested Citation

Orłowski, Piotr and Schneider, Paul Georg and Trojani, Fabio, On the Nature of Jump Risk Premia (May 21, 2019). Swiss Finance Institute Research Paper No. 19-31. Available at SSRN: https://ssrn.com/abstract=3391998 or http://dx.doi.org/10.2139/ssrn.3391998

Piotr Orłowski (Contact Author)

HEC Montreal ( email )

3000 Chemin de la Cote-Sainte-Catherine
Montreal, Quebec H3T 2A7
Canada

Paul Georg Schneider

University of Lugano - Institute of Finance ( email )

Via Buffi 13
CH-6900 Lugano
Switzerland

Swiss Finance Institute ( email )

c/o University of Geneva
40, Bd du Pont-d'Arve
CH-1211 Geneva 4
Switzerland

Fabio Trojani

Swiss Finance Institute ( email )

c/o University of Geneva
40, Bd du Pont-d'Arve
CH-1211 Geneva 4
Switzerland

University of Geneva ( email )

Geneva
Switzerland

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