A Bayesian Stochastic Discount Factor for the Cross-Section of Individual Equity Options

94 Pages Posted: 16 Feb 2024 Last revised: 17 Apr 2024

See all articles by Niclas Käfer

Niclas Käfer

University of St. Gallen - School of Finance

Mathis Moerke

University of St. Gallen - Swiss Institute of Banking and Finance; University of St. Gallen - School of Finance

Florian Weigert

University of Neuchatel - Institute of Financial Analysis; University of Cologne - Centre for Financial Research (CFR)

Tobias Wiest

University of St. Gallen - School of Finance

Date Written: January 30, 2024

Abstract

We utilize Bayesian model averaging to estimate a stochastic discount factor (SDF) for single-stock options. A Bayesian model averaging SDF outperforms reduced-form benchmark models in-sample and out-of-sample in pricing option return anomalies and portfolios. We document that the SDF is dense in characteristics with the implied-realized volatility spread, option return momentum, and jump risk emerging as the most likely included factors. Noteworthy, we find that (i) our results remain largely robust after controlling for transaction costs and (ii) characteristics linked to behavioral biases gain in importance for options with high retail trading volume.

Keywords: Equity options, Option factor models, Asset pricing, Bayesian model averaging

JEL Classification: G12, G14, C11, C12, C52, C53

Suggested Citation

Käfer, Niclas and Moerke, Mathis and Weigert, Florian and Wiest, Tobias, A Bayesian Stochastic Discount Factor for the Cross-Section of Individual Equity Options (January 30, 2024). Available at SSRN: https://ssrn.com/abstract=4710335 or http://dx.doi.org/10.2139/ssrn.4710335

Niclas Käfer (Contact Author)

University of St. Gallen - School of Finance ( email )

Unterer Graben 21
St. Gallen, 9000
Switzerland

Mathis Moerke

University of St. Gallen - Swiss Institute of Banking and Finance ( email )

Rosenbergstrasse 52
St. Gallen, CH-9000
Switzerland

HOME PAGE: http://www.mathismoerke.com

University of St. Gallen - School of Finance ( email )

Unterer Graben 21
St. Gallen, 9000
Switzerland

Florian Weigert

University of Neuchatel - Institute of Financial Analysis ( email )

Pierre-a-Mazel,7
Neuchatel, CH-2000
Switzerland

University of Cologne - Centre for Financial Research (CFR) ( email )

Albertus-Magnus Platz
Cologne, 50923
Germany

Tobias Wiest

University of St. Gallen - School of Finance ( email )

Unterer Graben 21
St. Gallen, 9000
Switzerland

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