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The Volatility Structure Implied by Options on the SPI Futures Contract

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  • Christine A. Brown

    (Department of Accounting and Finance, University of Melbourne, Parkville, Victoria 3052. Email: c.brown@ecomfac.unimelb.edu.au)

Abstract

The Asay (1982) option pricing model prices options on futures contracts where the premia are margined. The model assumes that the volatility of the underlying futures contract is constant over the life of the option. However it is an empirical observation in many markets that options on the same underlying futures contract with the same maturity, but at different strikes, trade at different implied volatilities. Since the 1987 crash, it has been documented that in many markets the volatility implied by out†of†the†money put options is higher than that implied by out†of†the†money call options. This phenomenon has become known as the ‘volatility skew’. This paper examines the volatility structure for options on the SPI futures contract over the period June 1993 to June 1994, and provides theoretical explanations consistent with its shape.

Suggested Citation

  • Christine A. Brown, 1999. "The Volatility Structure Implied by Options on the SPI Futures Contract," Australian Journal of Management, Australian School of Business, vol. 24(2), pages 115-130, December.
    • Handle: RePEc:sae:ausman:v:24:y:1999:i:2:p:115-130
    DOI: 10.1177/031289629902400202
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    References listed on IDEAS

    as
    1. Emanuel, David C. & MacBeth, James D., 1982. "Further Results on the Constant Elasticity of Variance Call Option Pricing Model," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 17(4), pages 533-554, November.
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    3. Robert C. Merton, 2005. "Theory of rational option pricing," World Scientific Book Chapters, in: Sudipto Bhattacharya & George M Constantinides (ed.), Theory Of Valuation, chapter 8, pages 229-288, World Scientific Publishing Co. Pte. Ltd..
    4. Brown, C. A. & Taylor, S. D., 1997. "A test of the Asay model for pricing options on the SPI futures contract," Pacific-Basin Finance Journal, Elsevier, vol. 5(5), pages 579-594, December.
    5. Xu, Xinzhong & Taylor, Stephen J., 1994. "The Term Structure of Volatility Implied by Foreign Exchange Options," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 29(1), pages 57-74, March.
    6. Sheikh, Aamir M., 1991. "Transaction Data Tests of S&P 100 Call Option Pricing," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 26(4), pages 459-475, December.
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    8. MacBeth, James D & Merville, Larry J, 1979. "An Empirical Examination of the Black-Scholes Call Option Pricing Model," Journal of Finance, American Finance Association, vol. 34(5), pages 1173-1186, December.
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    Cited by:

    1. Timothy Sharp & Steven Li & David Allen, 2010. "Empirical performance of affine option pricing models: evidence from the Australian index options market," Applied Financial Economics, Taylor & Francis Journals, vol. 20(6), pages 501-514.
    2. Robert E.J. Hibbard & Rob Brown & Keith R. McLaren, 2002. "Nonsimultaneity and Futures Option Pricing: Simulation and Empirical Evidence," Monash Econometrics and Business Statistics Working Papers 13/02, Monash University, Department of Econometrics and Business Statistics.
    3. Steven Li & Elia Alfay, 2006. "Evidence on the arbitrage efficiency of SPI index futures and options markets," Asia-Pacific Financial Markets, Springer;Japanese Association of Financial Economics and Engineering, vol. 13(1), pages 71-93, March.

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