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Consumption risks in option returns

Author

Listed:
  • Yang, Shuwen
  • Aretz, Kevin
  • Liu, Hening
  • Zhang, Yuzhao

Abstract

We offer evidence that exposures to consumption growth and consumption volatility are significantly priced in the cross-section of delta-hedged option returns. Consumption growth commands a positive risk premium, whereas consumption volatility commands a negative risk premium. Our results suggest that consumption risk exposures provide rational foundations for well-known relations between options moneyness or idiosyncratic underlying-stock volatility and the cross-section of delta-hedged option returns. Furthermore, those risk premiums can also price stocks. In a representative-agent economy with recursive preferences, our results suggest that investors prefer early resolution of uncertainty.

Suggested Citation

  • Yang, Shuwen & Aretz, Kevin & Liu, Hening & Zhang, Yuzhao, 2022. "Consumption risks in option returns," Journal of Empirical Finance, Elsevier, vol. 69(C), pages 285-302.
    • Handle: RePEc:eee:empfin:v:69:y:2022:i:c:p:285-302
    DOI: 10.1016/j.jempfin.2022.10.001
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    More about this item

    Keywords

    Consumption growth; Option returns; Recursive utility; Volatility risk;
    All these keywords.

    JEL classification:

    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G12 - Financial Economics - - General Financial Markets - - - Asset Pricing; Trading Volume; Bond Interest Rates

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