Advanced Search
MyIDEAS: Login to save this paper or follow this series

Why does Implied Risk Aversion Smile?

Contents:

Author Info

  • Alexandre Ziegler

    (University of Lausanne and FAME)

Registered author(s):

    Abstract

    A few recent papers have derived estimates of the representative agent's risk aversion by comparing the statistical density of asset returns and the state-price density. The implied risk aversion estimates obtained in these studies are puzzling, exhibiting (i) pronounced U-shaped patterns (a "smile") and (ii) negative values. This paper analyzes three potential explanations for these phenomena: (i) heterogeneity in investor preferences, (ii) difficulties in estimating agents' beliefs and (iii) heterogeneous beliefs among agents. Our results show that preferences alone cannot explain the patterns reported in the literature. Misestimation of investors' beliefs caused by nonstationarity of the return process cannot explain the smile either. The patterns of beliefs misestimation required to generate the empirical implied risk aversion estimates found in the literature suggest that heterogeneous beliefs are the most likely cause of the smile.

    Download Info

    If you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
    File URL: http://www.swissfinanceinstitute.ch/rp47.pdf
    Download Restriction: no

    Bibliographic Info

    Paper provided by International Center for Financial Asset Management and Engineering in its series FAME Research Paper Series with number rp47.

    as in new window
    Length:
    Date of creation: May 2002
    Date of revision:
    Handle: RePEc:fam:rpseri:rp47

    Contact details of provider:
    Postal: 40 bd. du Pont d'Arve, Case postale 3, CH - 1211 Geneva 4
    Phone: 41 22 / 312 09 61
    Fax: 41 22 / 312 10 26
    Web page: http://www.swissfinanceinstitute.ch
    More information through EDIRC

    Related research

    Keywords: asset pricing; state-price density; heterogeneous preferences; heterogeneous beliefs; implied risk aversion;

    Find related papers by JEL classification:

    References

    References listed on IDEAS
    Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
    as in new window
    1. Jackwerth, Jens Carsten, 2000. "Recovering Risk Aversion from Option Prices and Realized Returns," Review of Financial Studies, Society for Financial Studies, vol. 13(2), pages 433-51.
    2. Benninga, Simon & Mayshar, Joram, 2000. "Heterogeneity and option pricing," Research Report 00E08, University of Groningen, Research Institute SOM (Systems, Organisations and Management).
    3. Ait-Sahalia, Yacine & Lo, Andrew W., 2000. "Nonparametric risk management and implied risk aversion," Journal of Econometrics, Elsevier, vol. 94(1-2), pages 9-51.
    4. Pan, Jun, 2002. "The jump-risk premia implicit in options: evidence from an integrated time-series study," Journal of Financial Economics, Elsevier, vol. 63(1), pages 3-50, January.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as in new window

    Cited by:
    1. Daniel Giamouridis, 2005. "Inferring option-implied investors' risk preferences," Applied Financial Economics, Taylor & Francis Journals, vol. 15(7), pages 479-488.

    Lists

    This item is not listed on Wikipedia, on a reading list or among the top items on IDEAS.

    Statistics

    Access and download statistics

    Corrections

    When requesting a correction, please mention this item's handle: RePEc:fam:rpseri:rp47. See general information about how to correct material in RePEc.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Marilyn Barja).

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If references are entirely missing, you can add them using this form.

    If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.