Do liquidity and sampling methods matter in constructing volatility indices? Empirical evidence from Taiwan

This paper proposes four methods by which to sample option prices using proxies for liquidity—1-, 2-, 3-, 7-, and 8-day rollover rules—for option trades in order to construct volatility index series. Based on the sampling method using the average of all midpoints of bid and ask quote option prices, the volatility indices constructed by one-minute tick data have less missing data and are at least as efficient in volatility forecasting as the method suggested by the CBOE. In addition, based on different rollover rules, illiquidity in Taiwan's options market does not lead to substantial errors in the forecasting effectiveness of the volatility indices. Finally, the forecasting ability of VIX based on different sampling methods is found to be superior to that of VXO in Taiwan.