Investors' and Central Bank's Uncertainty Embedded in Index Options / Alexander David, Pietro Veronesi.

Format:

Book

Author/Creator:

David, Alexander.

Contributor:

National Bureau of Economic Research.

Veronesi, Pietro.

Series:

Working Paper Series (National Bureau of Economic Research) no. w16764.

NBER working paper series no. w16764

Language:

English

Physical Description:

1 online resource: illustrations (black and white);

Place of Publication:

Cambridge, Mass. National Bureau of Economic Research 2011.

Summary:

Shocks to equity options' ATM implied volatility (ATMIV) are followed by persistently lower short-term rates. Shocks to the ratio of OTM puts' over OTM calls' implied volatilities (P/C) are followed by persistently higher rates. The stock's and Treasury-bond's ATMIV indices, which measure market and policy uncertainty, are counter-cyclical while the P/C index, which measures downside risk, is pro-cyclical. An equilibrium model where investors and the central bank learn about composite regimes on economic and policy variables explains these options' dynamics, linking them to a learning-based, forward-looking Taylor rule. The model produces several predictions on the relation between options, monetary policy variables, and beliefs that find support in the data.

Notes:

Print version record

February 2011.