The Dynamics of the Implied Volatility Surface: A Story of Rare Economic Events

64 Pages Posted: 2 Jun 2020 Last revised: 7 Aug 2020

See all articles by Michael Hasler

Michael Hasler

University of Texas at Dallas, Naveen Jindal School of Management, Department of Finance

Alexandre Jeanneret

HEC Montréal

Date Written: May 1, 2020

Abstract

We propose a macro-fi nance model that rationalizes robust features in equity-index option markets. When rare disasters are followed by economic recoveries, the slope of the implied volatility term structure is positive in good times but turns negative in bad times. Additionally, implied volatility decreases with moneyness in bad times (volatility skew), while the shape becomes a smile in good times in the presence of rare economic booms. Our theory contributes to understanding the dynamics of the implied volatility surface while keeping standard asset pricing moments realistic.

Keywords: Macro Finance, Business Cycle, Implied Volatility, Rare Disasters, Recoveries, Booms

JEL Classification: G12

Suggested Citation

Hasler, Michael and Jeanneret, Alexandre, The Dynamics of the Implied Volatility Surface: A Story of Rare Economic Events (May 1, 2020). Available at SSRN: https://ssrn.com/abstract=3590242 or http://dx.doi.org/10.2139/ssrn.3590242

Michael Hasler (Contact Author)

University of Texas at Dallas, Naveen Jindal School of Management, Department of Finance ( email )

800 West Campbell
Richarson, TX 75080
United States

Alexandre Jeanneret

HEC Montréal ( email )

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

HOME PAGE: http://www.alexandrejeanneret.net

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