Nieto, Belén and Novales Cinca, Alfonso and Rubio, Gonzalo (2011) Variance Swaps and Intertemporal Asset Pricing. [Working Paper or Technical Report] (Unpublished)
Available under License Creative Commons Attribution Non-commercial.
Official URL: http://eprints.ucm.es/12522/
This paper proposes an ICAPM in which the risk premium embedded in variance swaps is the factor mimicking portfolio for hedging exposure to changes in future investment conditions. Recent empirical evidence shows that the fears by investors to deviations from Normality in the distribution of returns are able to explain time-varying financial and macroeconomic risks in addition to being a determinant of the variance risk premium. Moreover, variance swaps hedges unfavorable changes in the stochastic investment opportunity set, and is not a redundant asset because significantly expands the efficient mean-variance frontier. Thence, we should expect the variance swap risk premium to be priced in the market. We report relatively favorable evidence on the incremental pricing information associated with the variance risk premium, particularly at shorter horizons.
|Item Type:||Working Paper or Technical Report|
|Additional Information:||JEL classification: C13, C14, G10, G12. The authors thank seminar participants at the 33th Meeting of the European Accounting Association, the 8th INFINITI Conference on International Finance, and XVII Foro de Finanzas, IESE, and especially Enrique Sentana, for constructive comments.|
|Uncontrolled Keywords:||Variance risk premium, Intertemporal asset pricing|
|Subjects:||Social sciences > Economics > Econometrics|
Social sciences > Economics > Stock exchanges
Amengual, D. (2009), The Term Structure of Variance Risk Premia, Working Paper, CEMFI.
Amihud, Y. (2002), Illiquidity and Stock Returns: Cross-Section and Time-Series Effects, Journal of Financial Markets 5, 31-56.
Antón, M. (2010), The Price of Correlation Risk. Theory and Evidence, Working Paper, London School of Economics.
Bollerslev, T. and V. Todorov (2010), Tails, Fears, and Risk Premia, Working Paper, Duke University.
Bondareko, O. (2004), Market Price of Variance Risk and Performance of Hedge Funds, Working Paper, University of Illinois.
Brennan, M., X. Liu, and Y. Xia (2006), Option Pricing Kernels and the ICAPM, Working Paper, The Anderson School, UCLA.
Brennan, M., A. Wang, and Y. Xia (2004), Estimation and Test of a Simple Model of Intertemporal Capital Asset Pricing, Journal of Finance 59, 1743-1775.
Carr, P. and L. Wu (2009), Variance Risk Premia, Review of Financial Studies 22, 1311-1341.
Chabi-Yo, F. (2008), Conditioning Information and Variance Bounds on Pricing Kernels with Higher-Order Moments: Theory and Evidence, Review of Financial Studies 21, 181-231.
Chabi-Yo, F. (2009), Pricing Kernels with Coskewness and Volatility Risk, Working Paper, Fisher College of business, Ohio State University.
Cochrane, J. (2005), Asset Pricing, Princeton University Press.
Driessen, J., P. Maenhout, and G. Vilkov (2009), The Price of Correlation Risk: Evidence from Equity Options, Journal of Finance 64, 1377-1406.
Egloff, D., M. Leippold, and L. Wu (2010), The Term Structure of Variance Swap Rates and Optimal Variance Swap Investments, Forthcoming in the Journal of Financial and Quantitative Analysis.
Fama, E., and J. MacBeth (1973), Risk, Return, and Equilibrium: Empirical Tests, Journal of Political Economy 71, 607-636.
Hahn, J., and H. Lee (2006), Yield Spreads as Alternative Risk Factors for Size and Book-to-Market, Journal of Financial and Quantitative Analysis 41, 245-269.
Hansen, L., and R. Jagannathan (1997), Assessing Specification Errors in Stochastic Discount Factors Models, Journal of Finance 52, 557-590.
Malkhozov, A. (2009), Stochastic Volatility and Long-run Risk in Endowment and Production Economies, Working Paper, McGill University.
Merton, R. (1973), An Intertemporal Capital Asset Pricing Model, Econometrica 41, 867-887.
Nieto, B., A. Novales, and G. Rubio (2010), Why do Variance Swaps Exist?, Working Paper, University CEU Cardenal Herrera.
Petkova, R. (2006), Do the Fama-French Factors Proxy for Innovations in Predictive Variables? Journal of Finance 61, 581-612.
Shanken, J. (1992), On the Estimation of Beta Pricing Models, Review of Financial Studies 5, 1-34.
Todorov, V. (2010), Variance Risk Premia Dynamics: The Role of Jump, Review of Financial Studies 23, 345-383.
Vilkov, G. (2008), Variance Risk Premium Demystified, Working Paper, INSEAD.
|Deposited On:||04 Apr 2011 11:13|
|Last Modified:||05 Apr 2011 10:45|
Repository Staff Only: item control page