Complutense University Library

Why do variance swaps exist?

Nieto, Belén and Novales Cinca, Alfonso and Rubio, Gonzalo (2011) Why do variance swaps exist? [Working Paper or Technical Report] (Unpublished)

[img]
Preview
PDF
Available under License Creative Commons Attribution Non-commercial.

261kB

Official URL: http://eprints.ucm.es/12520/

View download statistics for this eprint

==>>> Export to other formats

Abstract

This paper studies the determinants of the variance risk premium and concludes on the hedging possibilities offered by variance swaps. We start by showing that the variance
risk premium responds to changes in higher order moments of the distribution of market returns. But the uncertainty that determines the variance risk premium –the fear by investors to deviations from Normality in returns- is also strongly related to a variety of risks: risk of default, employment growth risk, consumption growth risk, stock market risk and market illiquidity risk. Therefore, the variance risk premium could be interpreted as reflecting the market willingness to pay for hedging against financial and
macroeconomic sources of risk. We provide additional evidence in support of that view.

Item Type:Working Paper or Technical Report
Additional Information:JEL classification: C13, C14, G10, G12
Uncontrolled Keywords:Variance risk premium, Non-normality, Economic risks, Hedging
Subjects:Social sciences > Economics > Econometrics
Social sciences > Economics > Macroeconomics
Series Name:Documentos de trabajo del Instituto Complutense de Análisis Económico (ICAE)
Volume:2011
Number:06
ID Code:12520
References:

Amengual, D. (2009), The Term Structure of Variance Risk Premia, Working Paper, Department of Economics, Princeton University.

Amihud, Y. (2002), Illiquidity and Stock Returns: Cross-Section and Time-Series Effects, Journal of Financial Markets 5, 31-56.

Anderson, T. W. (1984), An Introduction of Multivariate Statistical Analysis. Wiley, New York.

Carr, P. and L. Wu (2009), Variance Risk Premia, Review of Financial Studies 22, 1311-1341.

Chabi-Yo, F. (2009), Pricing Kernels with Coskewness and Volatility Risk, Working Paper, Fisher College of Business, Ohio State University.

Driessen, J., P. Maenhout, and G. Vilkov (2009), The Price of Correlation Risk: Evidence from Equity Options, Journal of Finance 64, 3, 1377-1406.

Egloff, D., M. Leippold, and L. Wu (2007), Variance Risk Dynamics, Variance Risk Premia, and Optimal Variance Swap Investments, Forthcoming in the Journal of Financial and Quantitative Analysis.

Fama, E., and K. French (1993), Common Risk Factors in the Returns on Stocks and Bonds, Journal of Financial Economics 33, 3-56.

Gallant, A. and G. Tauchen (1989), Semi Non-parametric Estimation of Conditionally Constrained Heterogeneou Processes: Asset Pricing Applications, Econometrica 57, 1091-1120.

Hasbrouck, J. (2009), Trading Costs and Returns for US Equities: Estimating Effective Costs from Daily Data, Journal of Finance, 64, 3, 1445-1477.

Harvey, C. and A. Siddique (2000), Conditional Skewness in Asset Pricing Tests, Journal of Finance 55, 1263-1295.

Huberman, G. and S. Kandel (1987), Mean-variance Spanning, Journal of Finance, 42, 873-888.

Jobson, J. D. and B. Korkie (1989), A Performance Interpretation of Multivariate Tests of Asset Set Intersections, Spanning and Mean-variance Efficiency, Journal of Financial and Quantitative Analysis, 24, 185-204.

Kan, R., and G. Zhou (2008), Tests of Mean-Variance Spanning, Working Paper, Olin Business School, Washington University, St. Louis.

Kraus, A., and R. Litzenberger (1976), Skewness Preference and the Valuation of Risky Assets, Journal of Finance 31, 1085-1100.

León, A., G. Serna, and G. Rubio (2005), Autoregressive Conditional Volatility, Skewness and Kurtosis, Quarterly Review of Economics and Finance 42, 599-618.

Márquez, E., B. Nieto, and G. Rubio (2009), Consumption, Liquidity, and the Cross-Sectional Variation of Expected Returns, VI Research Workshop on Asset Pricing, IE Business School.

Rubinstein, M. (1973), The Fundamental Theorem of Parameter-Preference Security Valuation, Journal of Financial and Quantitative Analysis 8, 61-69.

Todorov, V. (2009), Variance Risk Premia Dynamics: The Role of Jumps, Review of Financial Studies, 23, 1, 345-383.

Vilkov, G. (2008), Variance Risk Premium Demystified, Working Paper, INSEAD.

Deposited On:04 Apr 2011 08:44
Last Modified:12 Mar 2014 10:52

Repository Staff Only: item control page