Option Pricing and Foreign Investment under Political Risk
AbstractThe paper analyses asset prices in a context of uncertainty over future government policy. As current policy is maintained, perceived risk abates thus leading to a gradual appreciation of asset prices and a gradual decrease in their conditional variance. Option values computed under this process have time series and the term structure of conditional volatility, which, in general, are downward sloping. In price series without a policy reversal, implied volatility from option prices will exceed actual volatility, with this wedge progressively disappearing. This may be viewed as the volatility analogue of the ‘peso premium’ for assets subject to large, infrequent price drops.
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Bibliographic InfoPaper provided by Tinbergen Institute in its series Tinbergen Institute Discussion Papers with number 99-030/2.
Date of creation: 07 May 1999
Date of revision:
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Web page: http://www.tinbergen.nl
International asset pricing; Political risk; Option pricing; Implied volatility; Peso premium;
Other versions of this item:
- Cherian, Joseph A. & Perotti, Enrico, 2001. "Option pricing and foreign investment under political risk," Journal of International Economics, Elsevier, vol. 55(2), pages 359-377, December.
- Cherian, Joseph A & Perotti, Enrico C, 1999. "Option Pricing and Foreign Investment under Political Risk," CEPR Discussion Papers 2327, C.E.P.R. Discussion Papers.
- F30 - International Economics - - International Finance - - - General
- G12 - Financial Economics - - General Financial Markets - - - Asset Pricing
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