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Implied volatility and the cross section of stock returns in the UK

Author

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  • Poshakwale, Sunil S.
  • Chandorkar, Pankaj
  • Agarwal, Vineet

Abstract

The paper examines the relationship and the cross-sectional asset pricing implications of risk arising from the innovations in the short and the long-term implied market volatility on excess returns of the FTSE100 and the FTSE250 indices and the 25 value-weighted Fama-French style portfolios in the UK. Findings suggest that after controlling for valuation, macroeconomic, leading economic and business cycle indicators, returns exhibit a strong negative relationship with the innovations in both the short and the long-term implied market volatility. The cross-sectional regression provides new evidence that changes in both short and long-term implied market volatility are significant asset pricing factors with negative prices of risk, which suggests that (i) investors care about ex-ante volatility and (ii) they are willing to pay for insurance for future uncertainty.

Suggested Citation

  • Poshakwale, Sunil S. & Chandorkar, Pankaj & Agarwal, Vineet, 2019. "Implied volatility and the cross section of stock returns in the UK," Research in International Business and Finance, Elsevier, vol. 48(C), pages 271-286.
    • Handle: RePEc:eee:riibaf:v:48:y:2019:i:c:p:271-286
    DOI: 10.1016/j.ribaf.2019.01.006
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    3. O'Donnell, Niall & Shannon, Darren & Sheehan, Barry, 2023. "A vaccine for volatility? An empirical analysis of global stock markets and the impact of the COVID-19 vaccine," The Journal of Economic Asymmetries, Elsevier, vol. 28(C).
    4. Xu, Wei & Šević, Aleksandar & Šević, Željko, 2022. "Implied volatility surface construction for commodity futures options traded in China," Research in International Business and Finance, Elsevier, vol. 61(C).

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    More about this item

    Keywords

    VFTSE; Excess returns; Asset pricing; Business cycle; ICAPM; Implied volatility;
    All these keywords.

    JEL classification:

    • G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates
    • C21 - Mathematical and Quantitative Methods - - Single Equation Models; Single Variables - - - Cross-Sectional Models; Spatial Models; Treatment Effect Models

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