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Explaining the negative returns to volatility claims: An equilibrium approach

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  • Eraker, Bjørn
  • Wu, Yue

Abstract

We study the returns to investing in VIX futures, VIX Exchange Traded Notes (ETNs), and variance swaps. We document substantial negative return premia for these assets. For example, the constant maturity portfolio of 1-month VIX futures loses about 30% per year over our sample period (2006–2013). We investigate if these findings are consistent with dynamic equilibrium. We derive a model based on present value computation that endogenizes stock prices, the VIX index, and its associated derivative contracts. The model explains the negative return premia as well as several other stylized features of the VIX futures, ETNs, and variance swap data.

Suggested Citation

  • Eraker, Bjørn & Wu, Yue, 2017. "Explaining the negative returns to volatility claims: An equilibrium approach," Journal of Financial Economics, Elsevier, vol. 125(1), pages 72-98.
    • Handle: RePEc:eee:jfinec:v:125:y:2017:i:1:p:72-98
    DOI: 10.1016/j.jfineco.2017.04.007
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    More about this item

    Keywords

    Variance risk premium; VIX futures; VIX ETN; Dynamic equilibrium; Jump-diffusion;
    All these keywords.

    JEL classification:

    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing
    • C22 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Time-Series Models; Dynamic Quantile Regressions; Dynamic Treatment Effect Models; Diffusion Processes
    • C58 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Financial Econometrics

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