Long Memory and the Relation Between Implied and Realized Volatility
AbstractWe argue that the predictive regression between implied volatility (regressor) and realized volatility over the remaining life of a European option (regressand) is likely to be a fractional cointegrating relation. Because cointegration is associated with long-run comovements, this classical regression cannot be used to test for option market efficiency and short-term unbiasedness of implied volatility as a predictor of realized volatility. Using narrow-band spectral methods, we provide consistent estimates of the long-run relation between implied and realized volatility even when implied volatility is measured with error and/or volatility is priced but the volatility risk premium is unobservable. Although little can be said about short-term unbiasedness, our results largely support a notion of long-run unbiasedness of implied volatility as a predictor of realized volatility. Copyright 2006, Oxford University Press.
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Bibliographic InfoArticle provided by Society for Financial Econometrics in its journal Journal of Financial Econometrics.
Volume (Year): 4 (2006)
Issue (Month): 4 ()
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Other versions of this item:
- Federico Bandi & Benoit Perron, 2003. "Long memory and the relation between implied and realized volatility," Econometrics 0305004, EconWPA.
- G10 - Financial Economics - - General Financial Markets - - - General (includes Measurement and Data)
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