« Back to Results
Manchester Grand Hyatt, Cortez Hill B
Hosted By:
Econometric Society
Rare Events
Paper Session
Sunday, Jan. 5, 2020 1:00 PM - 3:00 PM (PDT)
- Chair: Winston Wei Dou, University of Pennsylvania
Flights to Safety and Volatility Pricing
Abstract
Unexpected shifts in the realized stock market volatility, often associated with financial crises, carry a significantly negative risk premium across stocks and Treasuries, which suggests the existence of a unified pricing model. Investors require a premium for holding the risky assets (stocks), which correlate negatively with volatility surprises, while they are willing to pay a premium for holding the safe assets (Treasury bonds), which correlate positively. This is consistent with investors' "flights to safety", and the corresponding change in sign in the stock-bond correlation, during times of economic uncertainty. Furthermore, because of their positive loadings on volatility, bonds perform well in bad times, which explains their lower expected returns. Interestingly, the joint pricing of stocks and Treasuries leads to economically meaningful and statistically significant risk premia estimates, and to a good performance of asset pricing models. In contrast, both the implied volatility index, VIX, and the tail index, SKEW, are not robustly priced across the two financial markets.Jumps and the Correlation Risk Premium: Evidence from Equity Options
Abstract
This paper breaks the correlation risk premium down into two components: a premium related to the correlation of continuous stock price movements and a premium for bearing the risk of co-jumps. We propose a novel way to identify both premiums based on a dispersion trading strategy that goes long an index option portfolio and short a basket of option portfolios on the constituents. The option portfolios are constructed to only load on either diffusive volatility or jump risk. We document that both risk premiums are economically and statistically significant for the S&P 100 index. In particular, selling insurance against states of high jump correlation generates a sizable annualized Sharpe ratio of 0.85.Aggregate Asymmetry in Idiosyncratic Jump Risk
Abstract
We study the structure and pricing of idiosyncratic jumps, i.e., jumps in asset prices that occur outside market-wide jump events. Using options on individual stocks and the market index that are close to expiration as well as local estimates of market betas from returns on the underlying assets, we estimate nonparametrically the asymmetry in the risk-neutral expected idiosyncratic variation, i.e., the difference in variation due to negative and positive returns, which asymptotically is solely attributed to jumps. We derive a feasible Central Limit Theorem that allows to quantify precision in the estimation, with the limiting distribution being mixed Gaussian. We find strong empirical evidence for aggregate asymmetry in idiosyncratic risk which shows that such risk clusters cross-sectionally. Our results reveal the existence and non-trivial pricing of aggregate downside tail risk in stocks during market-neutral systematic events as well as a negative skew in the cross-sectional return distribution during such episodes.Discussant(s)
Boris Nikolov
,
University of Lausanne and Swiss Finance Institute
Alan Moreira
,
University of Rochester
David Weinbaum
,
Syracuse University
Mete Kilic
,
University of Southern California
JEL Classifications
- G1 - General Financial Markets
- E3 - Prices, Business Fluctuations, and Cycles