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Characterizing implied volatility functions from agricultural options markets

Author

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  • Andrew M. McKenzie
  • Michael R. Thomsen
  • Michael K. Adjemian

Abstract

We provide the first comprehensive characterization and comparison of implied volatility functions for five major agricultural options markets—corn, soybeans, soft red winter wheat, live cattle, and feeder cattle—using intraday tick data. Our results show that cattle markets exhibit a distinct leftward skew, which is puzzling and indicates that out‐of‐the‐money traded put options are theoretically overpriced. In contrast, we find that grain market implied volatility functions display a flatter, less pronounced smile pattern. We examine market sentiment induced short‐term hedging pressures using Commodity Futures Trading Commission reports, and market uncertainty around Cattle on Feed reports, as potential causes of the cattle markets skew. However, our results show that the explanatory power of our short‐term hedging pressure proxies are only helpful in isolated cases but overall cannot explain the large skews we observe in cattle markets.

Suggested Citation

  • Andrew M. McKenzie & Michael R. Thomsen & Michael K. Adjemian, 2022. "Characterizing implied volatility functions from agricultural options markets," American Journal of Agricultural Economics, John Wiley & Sons, vol. 104(5), pages 1605-1624, October.
    • Handle: RePEc:wly:ajagec:v:104:y:2022:i:5:p:1605-1624
    DOI: 10.1111/ajae.12288
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    References listed on IDEAS

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    1. Athanasios Triantafyllou & George Dotsis & Alexandros Sarris, 2020. "Assessing the Vulnerability to Price Spikes in Agricultural Commodity Markets," Journal of Agricultural Economics, Wiley Blackwell, vol. 71(3), pages 631-651, September.
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    Cited by:

    1. Chavas, Jean-Paul & Li, Jian & Wang, Linjie, 2024. "Option pricing revisited: The role of price volatility and dynamics," Journal of Commodity Markets, Elsevier, vol. 33(C).
    2. Nappo, Giovanna & Marchetti, Fabio Massimo & Vagnani, Gianluca, 2023. "Traders’ heterogeneous beliefs about stock volatility and the implied volatility skew in financial options markets," Finance Research Letters, Elsevier, vol. 53(C).
    3. Olga Isengildina Massa & Berna Karali & Scott H. Irwin, 2024. "What do we know about the value and market impact of the US Department of Agriculture reports?," Applied Economic Perspectives and Policy, John Wiley & Sons, vol. 46(2), pages 698-736, June.
    4. Dominik Boos, 2024. "Risky times: Seasonality and event risk of commodities," Journal of Futures Markets, John Wiley & Sons, Ltd., vol. 44(5), pages 767-783, May.
    5. Chavas, Jean-Paul & Li, Jian & Wang, Linjie, 2024. "Option Pricing Revisited: The Role of Price Volatility and Dynamics," 2024 Annual Meeting, July 28-30, New Orleans, LA 343544, Agricultural and Applied Economics Association.

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