Kozhan, Roman, Neuberger, Anthony and Schneider, Paul (2011) Understanding the skew in option prices. Working Paper. American Finance Association, United States.

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Abstract

We introduce a trading strategy that directly exploits the skew in the implied volatility surface in a model-free way. Profits from the strategy have a representation as the difference between implied and realized skew, the skew risk premium. We show that the skew risk premium does exist, and we provide evidence that it depends on the same underlying risk factor as the variance risk premium: Strategies designed to exploit one of the risk premiums but to hedge out the other make zero excess returns. The existence of the skew risk premium and its tight relation to the variance risk premium are consistent with the general equilibrium model of Eraker (2008).

Item Type:	Working or Discussion Paper (Working Paper)
Subjects:	H Social Sciences > HG Finance
Divisions:	Faculty of Social Sciences > Warwick Business School > Financial Econometrics Research Centre Faculty of Social Sciences > Warwick Business School > Finance Group Faculty of Social Sciences > Warwick Business School
Series Name:	AFA 2011 Denver Meetings Paper
Publisher:	American Finance Association
Place of Publication:	United States
Date:	August 2011
Number of Pages:	43
Status:	Not Peer Reviewed
Publication Status:	Published
Access rights to Published version:	Restricted or Subscription Access
URI:	http://wrap.warwick.ac.uk/id/eprint/44818

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