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Testing the forecasting performace of IBEX 35 option implied risk neutral densities

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  • Francisco Alonso

    ()
    (Banco de España)

  • Roberto Blanco

    ()
    (Banco de España)

  • Gonzalo Rubio

    ()
    (Euskal Herriko Unibertsitatea)

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    Abstract

    The main objective of this paper is to test whether the risk neutral densities (RNDs) implied in the prices of the future options contract on the Spanish IBEX 35 index accurately predict the distribution of future outcomes of the underlying asset. We estimate RNDs using both parametric and nonparametric procedures. We find that between 1996 and 2003 we cannot reject the hypothesis that the RNDs provide accurate predictions of the distributions of future realisations of the IBEX 35 index at four week horizon. However, this result is not robust by subperiods. In particular, from October 1996 to February 2000, we find that RNDs are not able to consistently predict the actual realisations of returns. In this period, option prices assign a low risk neutral probability to large rises compared with realisations. Tests based on the tails of the distribution show that RNDs significantly understate the right tail of the distribution for both the whole period and the first subperiod.

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    File URL: http://www.bde.es/f/webbde/SES/Secciones/Publicaciones/PublicacionesSeriadas/DocumentosTrabajo/05/Fic/dt0504e.pdf
    File Function: First version, February 2005
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    Bibliographic Info

    Paper provided by Banco de Espa�a in its series Banco de Espa�a Working Papers with number 0504.

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    Length: 27 pages
    Date of creation: Feb 2005
    Date of revision:
    Handle: RePEc:bde:wpaper:0504

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    4. Keller, Joachim & Glatzer, Ernst & Craig, Ben R. & Scheicher, Martin, 2003. "The Forecasting Performance of German Stock Option Densities," Discussion Paper Series 1: Economic Studies 2003,17, Deutsche Bundesbank, Research Centre.
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    18. Melick, William R. & Thomas, Charles P., 1997. "Recovering an Asset's Implied PDF from Option Prices: An Application to Crude Oil during the Gulf Crisis," Journal of Financial and Quantitative Analysis, Cambridge University Press, vol. 32(01), pages 91-115, March.
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    Cited by:
    1. Duca, Ioana Andreea & Ruxanda, Gheorghe, 2013. "A View on the Risk-Neutral Density Forecasting of the Dax30 Returns," Journal for Economic Forecasting, Institute for Economic Forecasting, vol. 0(2), pages 101-114, June.

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