Inferring volatility dynamics and risk premia from the S&P 500 and VIX markets |
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Authors: | Chris Bardgett Elise Gourier Markus Leippold |
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Institution: | 1. University of Zurich, Plattenstrasse 14, Zürich 8032, Switzerland;2. ESSEC Business School and Centre for Economic Policy Research (CEPR), 3 Avenue Bernard Hirsch, 95021 Cergy-Pontoise, France |
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Abstract: | We estimate a flexible affine model using an unbalanced panel containing S&P 500 and VIX index returns and option prices and analyze the contribution of VIX options to the model’s in- and out-of-sample performance. We find that they contain valuable information on the risk-neutral conditional distributions of volatility at different time horizons, which is not spanned by the S&P 500 market. This information allows enhanced estimation of the variance risk premium. We gain new insights on the term structure of the variance risk premium, present a trading strategy exploiting these insights, and show how to improve S&P 500 return forecasts. |
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Keywords: | S&P 500 and VIX joint modeling Volatility dynamics Particle filter Variance risk premium G12 G13 C58 |
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