IDEAS home Printed from https://ideas.repec.org/a/rsk/journ4/2161025.html
   My bibliography  Save this article

The influence of tracking error on volatility risk premium estimation

Author

Listed:
  • James S. Doran

Abstract

ABSTRACT I investigate whether the volatility risk premium is negative in energy and equity markets by examining the statistical properties of delta–gamma hedged option portfolios (selling the option, hedging with the underlying contract, and correcting for tracking error with an additional option). By correcting for gamma, these hedged portfolios are not subject to the same discretization and model misspecification problems as traditional deltahedged portfolios. Within a stochastic volatility framework, I demonstrate that ignoring an option’s gamma can lead to incorrect inference on the magnitude of the volatility risk premium. Using a sample of S&P100 Index and natural gas contracts, empirical tests reveal that the delta–gamma hedged strategy outperforms zero and the degree of overperformance is proportional to the level of volatility.

Suggested Citation

Handle: RePEc:rsk:journ4:2161025
as

Download full text from publisher

File URL: https://www.risk.net/system/files/import/protected/digital_assets/4818/jor_v9n3a1.pdf
Download Restriction: no
---><---

More about this item

Statistics

Access and download statistics

Corrections

All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:rsk:journ4:2161025. See general information about how to correct material in RePEc.

If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

We have no bibliographic references for this item. You can help adding them by using this form .

If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Thomas Paine (email available below). General contact details of provider: https://www.risk.net/journal-of-risk .

Please note that corrections may take a couple of weeks to filter through the various RePEc services.

IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.