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The volatility premium (2008)
| Citations: | 2 - 0 self |
BibTeX
@TECHREPORT{Eraker08thevolatility,
author = {Bjørn Eraker and Ravi Bansal and Tim Bollerslev and Mike Gallmeyer and Mark Ready and George Tauchen and Seminar Partic},
title = {The volatility premium},
institution = {},
year = {2008}
}
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Abstract
Implied option volatility averages about 19 % per year, while the unconditional return volatility is only about 16%. The difference, coined the volatility premium, is substantial and translates into large returns for sellers of index options. This paper studies a general equilibrium model based on long-run risk in an effort to explain the premium. In estimating the model on past data of stock returns and volatility (VIX), the model is successful in capturing the premium, as well as the large negative correlation between shocks to volatility and stock prices. Numerical simulations verify that writers of index options earn high rates of return in equilibrium.
