Variance Risk Premium and Return Predictability: Evidence from the Chinese SSE 50 ETF Options

23 Pages Posted: 26 Jul 2019 Last revised: 29 Jul 2019

See all articles by Zhenyu Cui

Zhenyu Cui

Stevens Institute of Technology - School of Business

Zhiyong Li

University of International Business and Economics (UIBE)

Ying Wu

Stevens Institute of Technology - School of Business

Mei Yu

University of International Business and Economics (UIBE)

Date Written: July 24, 2019

Abstract

The variance risk premium (VRP) reflects the degree of risk aversion of investors and the overestimation of the probability of extreme losses. We examine a variety of variance risk premiums, including both the upside and downside variance risk premiums, in the Chinese stock market. We find that there is strong presence of variance risk premiums in the Chinese stock market. Evidence on the corresponding delta-hedging portfolios confirms that investors are willing to pay the premium to hedge against the variance risk. We further investigate the predictability of variance risk premiums on Chinese stock markets. Our results show that the predictability limit is up to six months. More surprisingly, the predictive power mainly comes from the upside variance risk premium rather than the downside variance risk premium. The realized variances also have predictive power in the Chinese market while the risk-neutral variances do not.

Keywords: Emerging market, Variance risk premium, Downside variance risk premium, Upside variance risk premium, Delta hedging

JEL Classification: G12, G13

Suggested Citation

Cui, Zhenyu and Li, Zhiyong and Wu, Ying and Yu, Mei, Variance Risk Premium and Return Predictability: Evidence from the Chinese SSE 50 ETF Options (July 24, 2019). Available at SSRN: https://ssrn.com/abstract=3426118 or http://dx.doi.org/10.2139/ssrn.3426118

Zhenyu Cui (Contact Author)

Stevens Institute of Technology - School of Business ( email )

Hoboken, NJ 07030
United States

HOME PAGE: http://sites.google.com/site/zhenyucui86/publications

Zhiyong Li

University of International Business and Economics (UIBE) ( email )

10, Huixin Dongjie
Changyang District
Beijing, Beijing 100029
China

Ying Wu

Stevens Institute of Technology - School of Business ( email )

Hoboken, NJ 07030
United States

Mei Yu

University of International Business and Economics (UIBE) ( email )

10, Huixin Dongjie
Changyang District
Beijing, Beijing 100029
China

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