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Risk-adjusted option-implied moments

Author

Listed:
  • Felix Brinkmann

    (Deutsche Bundesbank)

  • Olaf Korn

    (University of Göttingen
    Centre for Financial Research Cologne (CFR))

Abstract

This paper provides a new way of converting risk-neutral moments into the corresponding physical moments, which are required for many applications. The main theoretical result is a new analytical representation of the expected payoffs of put and call options under the physical measure in terms of current option prices and a representative investor’s preferences. This representation is then used to derive analytical expressions for a variety of ex-ante physical return moments, showing explicitly how moment premiums depend on current option prices and preferences. As an empirical application of our theoretical results, we provide option-implied estimates of the representative stock market investor’s disappointment aversion using S&P 500 index option prices. We find that disappointment aversion has a procyclical pattern. It is high in times of high index levels and declines when the index falls. We confirm the view that investors with high risk aversion and disappointment aversion leave the stock market during times of turbulence and reenter it after a period of high returns.

Suggested Citation

  • Felix Brinkmann & Olaf Korn, 2018. "Risk-adjusted option-implied moments," Review of Derivatives Research, Springer, vol. 21(2), pages 149-173, July.
    • Handle: RePEc:kap:revdev:v:21:y:2018:i:2:d:10.1007_s11147-017-9136-4
    DOI: 10.1007/s11147-017-9136-4
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    Cited by:

    1. Ricardo Crisóstomo, 2021. "Estimating real‐world probabilities: A forward‐looking behavioral framework," Journal of Futures Markets, John Wiley & Sons, Ltd., vol. 41(11), pages 1797-1823, November.
    2. Ricardo Crisóstomo, 2021. "Estimación de probabilidades representativas del mundo real: importancia de los sesgos conductuales," CNMV Documentos de Trabajo CNMV Documentos de Trabaj, CNMV- Comisión Nacional del Mercado de Valores - Departamento de Estudios y Estadísticas.
    3. David Volkmann, 2021. "Explaining S&P500 option returns: an implied risk-adjusted approach," Central European Journal of Operations Research, Springer;Slovak Society for Operations Research;Hungarian Operational Research Society;Czech Society for Operations Research;Österr. Gesellschaft für Operations Research (ÖGOR);Slovenian Society Informatika - Section for Operational Research;Croatian Operational Research Society, vol. 29(2), pages 665-685, June.

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    More about this item

    Keywords

    Option-implied moments; Risk adjustment; Disappointment aversion; Implied preferences;
    All these keywords.

    JEL classification:

    • G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing
    • G17 - Financial Economics - - General Financial Markets - - - Financial Forecasting and Simulation
    • C51 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Model Construction and Estimation
    • C53 - Mathematical and Quantitative Methods - - Econometric Modeling - - - Forecasting and Prediction Models; Simulation Methods

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