The Risk and Return of Equity and Credit Index Options

51 Pages Posted: 14 Jul 2021 Last revised: 22 Jan 2024

See all articles by Hitesh Doshi

Hitesh Doshi

University of Houston - C.T. Bauer College of Business

Jan Ericsson

McGill University; Swedish Institute for Financial Research (SIFR)

Mathieu Fournier

UNSW Business School

Sang Byung Seo

University of Wisconsin - Madison

Date Written: January 20, 2024

Abstract

We develop a structural credit risk model, which allows us to price equity/credit indices and their options through the asset dynamics of index constituents. We estimate the model via MLE and find that equity and credit index option prices are well explained out-of-sample. Contrary to recent empirical findings, the two option markets are not inconsistently priced through the lens of our model. Returns on both options, while extreme, do not indicate any evidence of mispricing. Our analysis suggests that jointly addressing the pricing of various instruments requires a balance between three sources of systematic risk: asset, variance, and jump risks.

JEL Classification: G12, G13

Suggested Citation

Doshi, Hitesh and Ericsson, Jan and Fournier, Mathieu and Seo, Sang Byung, The Risk and Return of Equity and Credit Index Options (January 20, 2024). Available at SSRN: https://ssrn.com/abstract=3885357 or http://dx.doi.org/10.2139/ssrn.3885357

Hitesh Doshi

University of Houston - C.T. Bauer College of Business ( email )

Houston, TX 77204-6021
United States

Jan Ericsson (Contact Author)

McGill University ( email )

1001 Sherbrooke St. West
Montreal, Quebec H3A1G5 H3A 2M1
Canada
(514) 398-3186 (Phone)
(514) 398-3876 (Fax)

HOME PAGE: http://people.mcgill.ca/jan.ericsson/

Swedish Institute for Financial Research (SIFR)

Drottninggatan 89
SE-113 59 Stockholm, SE-113 60
Sweden

Mathieu Fournier

UNSW Business School ( email )

UNSW Business School
High St
Sydney, NSW 2052
Australia

Sang Byung Seo

University of Wisconsin - Madison ( email )

975 University Avenue
Madison, WI 53706-1324

HOME PAGE: http://sites.google.com/site/sangbyungseo

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